Carbon Policy and Stock Returns: Signals from Financial Markets

Download or read book Carbon Policy and Stock Returns: Signals from Financial Markets written by Martina Hengge and published by International Monetary Fund. This book was released on 2023-01-27 with total page 39 pages. Available in PDF, EPUB and Kindle. Book excerpt: Understanding the impact of climate mitigation policies is key to designing effective carbon pricing tools. We use institutional features of the EU Emissions Trading System (ETS) and high-frequency data on more than 2,000 publicly listed European firms over 2011-21 to study the impact of carbon policies on stock returns. After extracting the surprise component of regulatory actions, we show that events resulting in higher carbon prices lead to negative abnormal returns which increase with a firm's carbon intensity. This negative relationship is even stronger for firms in sectors which do not participate in the EU ETS suggesting that investors price in transition risk stemming from the shift towards a low-carbon economy. We conclude that policies which increase carbon prices are effective in raising the cost of capital for emission-intensive firms.