EDHEC Publications
Portfolio Losses from Climate Damages: A Guide for Long-Term Investors
2023
UK Local Government Pension Scheme authorities have experimented with reporting on their governance and management of climate risks, responding to challenges by non-governmental organisations and anticipating regulatory developments. Drawing on advice provided by investment consultants, their reports have included simulations of the impact of climate-related scenarios on investments suggesting that portfolios would only be marginally impacted, even in high temperature scenarios. In this paper, the author discusses the (de)merits of the advice addressed to pension trustees and engages with...
Value versus Values: What Is the Sign of the Climate Risk Premium?
2023
Given the conflicting messages about the magnitude and sign of the climate risk premium provided by the empirical studies to date, the author undertake a theoretical estimation of the sign of the risk premium. He finds that, in absence of tipping points, the payoff of green (brown) securities covaries positively (negatively) with consumption growth, and should therefore command a positive (negative) risk premium. In a world without sharp and large discontinuities in damages green securities should not therefore be expected to act as effective climate hedges....
The Impact of Climate Change News on Low-minus-High Carbon Intensity Portfolios
2023
Several pioneering papers have already examined the link between climate news and equity market returns with a view to isolating “climate beta” that could be used to construct climate-risk hedging portfolios with easy-to-trade assets. However, this study applies the latest natural language processing methods to construct climate news indices from newspaper articles. Linguistic dictionary, lexical sentiment-based techniques, and state-of-the-art transformer-based models are used to capture climate change concerns in leading newspapers over the 2005-2021 period. Daily indices are built for...
Asleep at the Wheel? The Risk of Sudden Price Adjustments for Climate Risk
2023
A large number of studies has failed to date to identify a robust and economically significant climate risk premium or climate beta, either at the aggregate or at the sectoral level. The author examines several explanations of why this may be the case, and finds that a mispricing of climate risk is the most likely explanation. If this is true, price adjustments will eventually occur, either in a gradual or in an abrupt way. This is a novel source of risk, which should be on the radar screen of long-term investors. Three key takeaways: The author...
The Global Transboundary Climate Risk Report
2023
As their name suggests, transboundary climate risks do not respect national or international borders. They are being triggered by climate change and by our adaptation responses to that challenge. A climate hazard in one country may well have an impact that crosses national borders to affect its neighbours. In our interconnected world, however, its impact may also jump across entire regions and vast oceans to harm distant countries. From flooding in Bangkok that disrupts global industrial production, to the spread of diseases that hold back economies, transboundary climate risks are an...
Time-varying Environmental Betas and Latent Green Factors
2023
In this working paper entitled "Time-varying Environmental Betas and Latent Green Factors", the authors study whether the US stock market is pricing exposures to climate risks through the lense of a latent linear factor model with time-varying betas estimable by an extension of the instrumented principal component analysis (IPCA) of Kelly, Pruitt, and Su (2019). In their specification, the factor loadings are allowed to be functions of both “financial” and environmental (“green”) company specific characteristics, such as ESG ratings and carbon intensity. They extend the...
Optimal Climate Policy with Negative Emissions
2023
We can limit the future temperature impact of climate change in two ways: reducing our use of CO2 emitting fuels as an energy source (abatement), and using negative emission technologies (NETs) to remove existing CO2 from the atmosphere (removal). Using a modification of the DICE model, authors analyse the optimal use of these two policy responses to climate change. After calibrating the marginal costs of abatement and CO2 removal to the latest scientific information, they find that carbon removal must play a very important role in an optimal...
The Agency of Greenwashing
2022
As climate change increasingly challenges business models, the disclosure of firm environmental performance casts growing attention by corporate stakeholders. This creates wider opportunities and incentives for greenwashing behaviors. We propose a novel measure of greenwashing and investigate its determinants and consequences for US firms. We show the that board characteristics are variously associated with the apparent degree of corporate greenwashing. Importantly, we find that greenwashing reduces firm value
The EDHEC European ETF, Smart Beta and Factor Investing Survey 2021
2021
The latest edition of the EDHEC European ETF, Smart Beta and Factor Investing Survey was conducted as part of the "ETF, Indexing and Smart Beta Investment Strategies" research chair at EDHEC-Risk Institute, in partnership with Amundi. With this survey, we aim to provide insights into investor perceptions of exchange-traded funds (ETFs) and of smart beta and factor investing strategies, with a strong focus on investor interest in SRI (Socially Responsible Investing)/ESG (Environmental, Social, Governance), building on the analysis of this year’s responses and relating them to past results of...
Institutional Investors and Corporate Carbon Footprint: Global Evidence
2021
Climate-aware institutional investors are assumed to affect the transition towards a low carbon economy by exercising their prerogatives as owners of global companies. Investors concerned with climate change can influence investee companies’ carbon footprint by voting at shareholder meetings on climate-related issues and by actively engaging with executives and board members. Authors study to what extent institutional investors’ ownership affected corporate carbon emissions in 68 countries for the period of 2007 to 2018. Results show that institutional investment on average does not...
A Holistic Goal-Based Investing Framework for Analyzing Efficient Retirement Investment Decisions in the Presence of Long-Term Care Risk
2021
One of the main goals of this paper is to assess whether the opportunity cost of such substantial rigidity may partly explain the annuity puzzle. To perform this analysis, we introduce a comprehensive simulation framework that includes notably (1) a realistic market simulation engine, incorporating Monte-Carlo simulations coupled with flexible long-term Capital Market Assumptions (CMAs), including scenarios for the whole yield curve, (2) a realistic product simulation engine, incorporating scenarios for stocks and bonds, but also retirement goal-hedging bond portfolios, as well as a...
Securing Replacement Income with Goal-Based Retirement Investing Strategies
2021
To supplement retirement benefits received from public and private pension systems, individuals need to make voluntary contributions and decide how to efficiently invest these contributions. In this paper, the authors analyse the problem of how to secure minimum levels of replacement income in retirement while offering attractive probabilities of reaching higher levels. Such strategies can offer an interesting alternative to target date funds, which have no focus on the generation of replacement income, or annuities, which can be used to secure replacement income but at the cost of...
Benefits of Open Architecture and Multi-Management in Real Estate Markets— Evidence from French Nonlisted Investment Trusts
2021
This publication was produced in partnership with Swiss Life Asset Managers France as part of the “Real Estate in Modern Investment Solutions” research chair at EDHEC-Risk Institute, which examines the role of real estate in welfare-improving forms of investment solutions, with a particular focus on the efficient use of dedicated real estate investments as part of the performance and hedging components of innovative retirement solutions. This study, “Benefits of Open Architecture and Multi-Management in Real Estate Markets—Evidence from French Nonlisted Investment Trusts”, reviews...
What Drives Robo-Advice?
2021
The promise of robo-advisory firms is to provide low cost access to diversified portfolios built in accordance with the academic literature on normative portfolio choice. The authors investigate the latter claim. How much normative advice does robo-advice contain? For this purpose, they web-scrap portfolio recommendations for 151,200 investor types (input combinations from an online questionnaire) for one of the largest US robo-advisors. Results show that the type of investment goal and the length of time horizon are dominating inputs with significant influence on recommended equity...
Investor Experience and Portfolio Choice: Regulatory Costs from MiFID II
2021
MiFID II forces banks and wealth managers to ask clients for their investment knowledge and experience. The implied regulatory view is that less experience should result in less risk taking. While this is neither shared in theoretical nor in empirical finance, it becomes a source of legal risk for asset managers and banks. How do banks react? What are the welfare implications? So far, this question was impossible to answer. The relevant data have not been available as they are not shared by banks. The authors circumvent this problem by using publicly available portfolio recommendations from...
Measuring and Managing ESG Risks in Sovereign Bond Portfolios and Implications for Sovereign Debt Investing
2021
This study, “Measuring and Managing ESG Risks in Sovereign Bond Portfolios and Implications for Sovereign Debt Investing" demonstrates that implementation choices regarding how ESG constraints are incorporated in the context of sovereign bond portfolio construction have a material impact on this opportunity cost. In particular, we find that higher environmental scores for developed countries and higher social scores for emerging countries are associated with lower costs of borrowing for issuers and consequently with lower yields for investors. We also confirm that negative screening leads to...
Covid-19 and Smart-Beta
2021
Authors investigate the role of sectors on the performance of smart-beta products during the COVID-19 crisis. Cross sectional differences in excess returns (versus a market capitalized portfolio) are driven by strong exposures to a historically unique COVID-19 related industry rotation, rather than to long term structural causes.
“Flexicure” Retirement Solutions: A Part of the Answer to the Pension Crisis?
2020
Individuals preparing for retirement are currently left with an unsatisfactory choice between security with no flexibility with annuity products and flexibility without security with investment products such as balanced funds or target date funds. To get out of this impasse, the authors introduce a range of “flexicure” retirement goal-based investing strategies that offer both security and flexibility with respect to the objective of generating replacement income in decumulation. Recent advances in financial engineering and digital technologies make it possible to apply goal-based investing...
The EDHEC European ETF, Smart Beta and Factor Investing Survey 2020
2020
The latest edition of the EDHEC European ETF, Smart Beta and Factor Investing Survey was conducted as part of the "ETF, Indexing and Smart Beta Investment Strategies" research chair at EDHEC-Risk Institute, in partnership with Amundi. With this survey, we aim to provide insights into investor perceptions of exchange-traded funds (ETFs) and of smart beta and factor investing strategies, building on the analysis of this year’s responses and relating them to past results of our annual survey. In 2020, the survey results show a slowdown in the use of smart beta and factor...
The Seasons of the True Size Anomaly
2020
This paper employs a robust portfolio sorting procedure to factor size characteristics into returns. The US size anomaly boils then down to a pure seasonal effect, fully supporting the “tax-loss-selling” hypothesis. We build a long-short calendar trading strategy, easily reproducible by an asset manager, being long the Smallminus-Big (SMB) portfolio in January (or in Q1), staying in cash in Q2 and Q3, and shorting SMB in Q4. The strategy achieves a mean yearly return close to 11% from 1963 to 2019. It does not decay over time, remains steady across all subperiods, and resists to the detection...
Risk Optimizations on Basis Portfolios: The Role of Sorting
2020
This paper investigates the mean-variance and diversification properties of risk-based strategies performed on style or basis portfolios. We show that the performance of these risk strategies is improved when performed on portfolios sorted on characteristics correlated with returns and is highly sensitive to the sorting procedure used to form the basis assets. Whereas the extant literature provides mixed support for the outperformance of smart beta strategies based on scientific diversification, our designed strategies outperform both the market model and multifactor model. Our testing...
Research Topics from Across the Commodity Markets
2020
In this working paper, the author concisely summarizes five research papers on (1) metals hedging; (2) energy policy; (3) the logistical planning of a grain-trading firm; (4) commodity pricing; and (5) the development of commodity exchanges. Before providing these summaries, she notes the main points of each of these academic articles below.
Climate Change and Credit Risk
2020
Authors investigate the relationship between exposure to climate change and firm credit risk. They show that the distance-to-default, a widely used market-based measure of corporate default risk, is negatively associated with the amount of a firm’s carbon emissions and carbon intensity. Therefore, companies with high carbon footprint are perceived by the market as more likely to default, ceteris paribus. The carbon footprint decreases the distance-to-default following shocks - such as the Paris Agreement - that reveal policymakers’ intention to implement stricter climate policies. Overall,...
Predicting and Decomposing the Risk of Data-Driven Portfolios
2020
Sophisticated algorithmic techniques are complementing human judgement across the fund industry. Whatever the type of rebalancing that occurs in the course of a longer horizon, it probably violates the buy-and-hold assumption. In this article, authors develop the methodology to predict, dissect and interpret the h-day financial risk in data-driven portfolios. Their risk budgeting approach is based on a flexible risk factor model that accommodates the dynamics in portfolio composition directly within the risk factors. Once these factors are defined, they cast portfolio risk measures, such as...
Factor Investing in Liability-Driven and Goal-Based Investment Solutions
2020
A new approach known as factor investing has recently emerged in investment practice, which recommends that allocation decisions be expressed in terms of risk factors, as opposed to standard asset class decompositions. While the relevance of factor investing is now widely accepted amongst sophisticated institutional investors, an ambiguity remains with respect to the exact role that risk factors are expected to play in an asset-liability management investment process. The main objective of this paper is precisely to contribute to the acceptance of factor investing by providing useful...
Commodity Trading Strategies: Examples, Mistakes, and Famous Debacles
2020
This paper provides a reasonably comprehensive tour of the always dynamic and frequently opaque commodity markets, including views on (1) commodity trading strategies, (2) common mistakes, and (3) two famous debacles. The specific types of commodity trading strategies that are included are trend-following and calendar-spread trading.
The EDHEC European ETF, Smart Beta and Factor Investing Survey 2019
2019
EDHEC-Risk Institute conducted its 12th survey of European investment professionals about the usage and perceptions of ETFs, smart beta and factor investing, as part of the Amundi research chair at EDHEC-Risk Institute on “ETF, Indexing and Smart Beta Investment Strategies”. The aim of this study is to analyse current European investor practices and perceptions on ETF, smart beta and factor investing strategies, as well as future plans in these domains. By comparing our results to those of our previous surveys, over more than a decade, we aim to shed some light on trends within the ETF market...
A Financially Justifiable and Practically Implementable Approach to Coherent Stress Testing
2019
We present an approach to stress testing that is both practically implementable and solidly rooted in well-established financial theory. We present our results in a Bayesian-net context, but the approach can be extended to different settings. We show i) how the consistency and continuity conditions are satisfied; ii) how the result of a scenario can be consistently cascaded from a small number of macrofinancial variables to the constituents of a granular portfolio; and iii) how an approximate but robust estimate of the likelihood of a given scenario can be estimated. This is particularly...
Factor Investing in Fixed-Income – Defining and Exploiting Value in Sovereign Bond Markets
2019
Value has been recognised as one of the most important factors for equities since the pioneering work by Fama and MacBeth (1973). In equities, the book-to-market value ratio has traditionally been used as a proxy for the value factor. Natural as this choice is for this asset class, it is difficult to translate the concept of value to the fixed-income domain. In this paper, “Factor Investing in Fixed-Income – Defining and Exploiting Value in Sovereign Bond Markets”, we propose a definition of value in Treasury bonds that, we believe, is more satisfactory than definitions found in the recent...
Factor Investing in Fixed-Income - Cross-Sectional and Time-Series Momentum in Sovereign Bond Markets
2019
Looking at momentum in fixed-income markets at the security level is very important, because studies that employ ‘synthetic’ zero-coupon bonds can be vitiated by the well-known serial autocorrelation of pricing errors, which can masquerade as a momentum effect. To our knowledge, no empirical study of momentum in Treasuries has looked at the problem at this level of granularity. In this paper, “Factor Investing in Fixed-Income – Cross-Sectional and Time-Series Momentum in Sovereign Bond Markets”, we undertake a systematic, security-level analysis of momentum and reversal strategies in US...
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About EDHEC
Operating from campuses in Lille, Nice, Paris, London and Singapore, EDHEC is one of the world’s top 15 business schools. Fully international and directly connected to the business world, EDHEC commands a strong reputation for research excellence and the ability to train entrepreneurs and managers capable of breaking new ground. EDHEC functions as a genuine laboratory of ideas and produces innovative solutions valued by businesses. The School’s teaching is inspired by its research work and a focus on “learning by doing”, all with the aim of equipping people with the skills to succeed in business.
