Climate Transition Matrix: Assessing Carbon Performance of Companies

Abstract

This paper addresses the selection of a dependable carbon risk metric and assesses the stability of different carbon risk matrices. The study identifies market capitalization and enterprise value including cash, as the most reliable denominators to scale carbon emissions. By utilizing one-year transition probabilities and extending them to a five-year horizon, the paper enables investors to anticipate the future carbon makeup of their portfolios. Additionally, the paper examines the progression of a buy-and-hold portfolio's carbon performance, offering insights for investors aiming to integrate sustainability factors and adeptly handle carbon risk in their investment approaches. Furthermore, investors can use these findings to evaluate the stability of their portfolios in terms of their carbon budget.

Keywords: Climate change, transition probability, carbon metrics