Climate Risks: Are the Markets Asleep at the Wheel
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. Could it be that the markets have already impounded all the relevant information?; that markets expect limited damages?; or that damages are so far in the future to be irrelevant on a discounted basis? What if markets were not informationally efficient and were underestimating the potential impacts from climate change? The latter mispricing hypothesis leaves open the possibility of repricing, either in a gradual or in an abrupt way. We argue this is a novel source of risk, which should be on the radar screen of long-term investors.
Riccardo Rebonato, Scientific Director, EDHEC-Risk Climate Impact Institute and Professor of Finance, EDHEC Business School, reviews the merits of various market efficiency explanations for the elusive sensitivity of asset prices to climate risk and explore why current market prices may be underestimating the effects of climate risk on government revenues and the cashflows of companies. Topics covered include:
- Do prices respond to climate shocks?
- Are climate outcomes relevant to asset pricing?
- How plausible is a climate soft landing?
- Could it be that damages are too far in the future to matter in present value?
- Should we be concerned about mispricing and repricing?
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.
