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Pricing of climate transition risks across different financial markets
As the global economy transitions towards net zero, it is conjectured that efficient financial markets reflect the risks involved with this transition. This hypothesis is empirically tested in this paper and signals are found of climate transition risk pricing in options, equity and bond markets, based on greenhouse gas emission levels. The analysis of recent developments in the option market suggests that investors perceive the oil and gas sector to have an elevated risk profile. In the equity and bond market for, particularly, the energy sector, investors appear to demand higher returns to compensate for a higher transition risk. In addition, it is found that the average maturity of newly issued bonds in the carbon intensive coal sector decreased, while the average maturity increased strongly in the renewables sector with low carbon emissions. The reduction of investors' long-term exposure to the coal sector signals concerns about its long-term viability, while the opposite is the case for the renewables sector. Nonetheless, it is not possible to conclude that climate risk pricing is consistent, as the statistical evidence is not overwhelming and not fully aligned across different markets. Furthermore, as climate indicators and emission data still contain important flaws, climate pricing based on these indicators could also be inadequate. Therefore, this paper aligns with the literature arguing that climate risk pricing is inconsistent and inadequate and that this is important for investors and risk managers to acknowledge. In addition, policymakers are urged to ensure that transition information, like emission data, is correct, timely and comparable to ensure its information value and usability.
The full article is available to institutions that have subscribed to the journal.
Dirk Broeders is a senior strategy adviser at the Supervisory Policy Division of De Nederlandsche Bank and a finance professor at the School of Business and Economics of Maastricht University. He is a former executive member of the International Organisation of Pension Supervisors (IOPS) and fellow at the Financial Stability Institute of the Bank for International Settlements.
Bernd Schouten is an economist for the Financial Markets Division of De Nederlandsche Bank.
Isabelle Tiems is an economist for the Financial Markets Division of De Nederlandsche Bank.
Niek Verhoeven is an economist for the Financial Markets Division of De Nederlandsche Bank.
CitationBroeders, Dirk, Schouten, Bernd, Tiems, Isabelle and Verhoeven, Niek (2023, August 1). Pricing of climate transition risks across different financial markets. In the Journal of Risk Management in Financial Institutions, Volume 16, Issue 2.