Download this article in PDF format
While the concept of factor investing has gained significant traction since the 2000s with the consequence of altering the landscape of equity investing, factor investing in fixed income remains in its infancy.
Mohamed BEN SLIMANE , Marielle DE JONG, Jean-Marie DUMAS, Hamza FREDJ , Michael SRB
This article studies the impact of carbon risk on stock pricing. To address this, we consider the seminal approach of Görgen et al. (2019), who proposed estimating the carbon financial risk of equities by their carbon beta. To achieve this, the primary task is to develop a brown-minus-green (or BMG) risk factor, similar to Fama and French (1992). Secondly, we must estimate the carbon beta using a multi-factor model. While Görgen et al. (2019) considered that the carbon beta is constant, we propose a time-varying estimation model to assess the dynamics of the carbon risk. Moreover, we test several specifications of the BMG factor to understand which climate change-related dimensions are priced in by the stock market. In the second part of the article, we focus on the carbon risk management of investment portfolios. First, we analyze how carbon risk impacts the construction of a minimum variance portfolio. As the goal of this portfolio is to reduce unrewarded financial risks of an investment, incorporating the carbon risk into this approach fulfils this objective. Second, we propose a new framework for building enhanced index portfolios with a lower exposure to carbon risk than capitalization-weighted stock indices. Finally, we explore how carbon sensitivities can improve the robustness of factor investing portfolios.
Théo RONCALLI, Theo LE GUENEDAL, Fréderic LEPETIT, Thierry RONCALLI, Takaya SEKINE
Vincent MORTIER, Thierry RONCALLI, Angelo DREI, Frederic LEPETIT, Takaya SEKINE