Temperature shocks and the cost of equity capital: Implications for climate change perceptions

Abstract

Financial market information can provide an objective assessment of losses anticipated from climate change. In a Merton-type asset pricing model, with asset prices affected by perceived changes in investment opportunities due to climate change, the risk premium is significantly negative, loadings for most assets are negative, and asset portfolios in more vulnerable industries have stronger negative loadings on a temperature shock factor. Weighted average increases in the cost of equity capital attributed to climate change are 0.22 percent, implying a present value loss of 7.92 percent of wealth. These costs complement previous estimates of the cost of climate change.JEL Codes: G12, Q54

Temperature shocks and welfare costs

“…Lower dividends lead then to a drop in equity prices. This confirms most recent empirical evidence suggesting that temperature shocks have a negative impact on asset prices (see Bansal et al, 2016;Balvers et al, 2017). As a result, the agent demands more of the risk-free asset, and the increased demand leads to a decline in the risk-free rate (Panel B), which is also in line with our empirical findings (Figure 3,Panel B).…”

The effect of carbon dissemination on cost of equity

“…Our paper makes several contributions to the extant literature. First, although the extant research (e.g., Balvers, Du, & Zhao, ; Chen & Gao, ; Gupta, ; Jung, Herbohn, & Clarkson, ; Kim, An, & Kim, ; Lee, Park, & Klassen, ; Li, Liu, Tang, & Xiong, ; Peng, Sun, & Luo, ; Sharfman & Fernando, ; Zhou, Zhang, Wen, Zeng, & Chen, ) focused on temperature shocks, managing climate/environmental risks and responding to the Carbon Disclosure Project (CDP) survey to examine market responses to firms' voluntary climate change information disclosure or their associations with the cost of debt financing/equity capital, this paper examines the dissemination effect of carbon‐related information via Twitter ( iCarbon ) on the COE. This broader effect is unlike that of disclosure and has its own capital market consequences (Bushee et al, ).…”

The future trajectory for environmental finance: planetary boundaries and environmental, social and governance analysis

“…The finance literature has also remained resolutely anchored on the impacts of environmental changes on firm performance or asset valuation (Griffin et al, 2015;Brown et al, 2017;Tulloch et al, 2017). Fewer studies have incorporated scientific findings to quantitatively measure or reflect environmental risks in asset pricing or risk management (Burke et al, 2015;Dietz et al, 2016;Balvers et al, 2017;Bernstein et al, 2019). There is little research that investigates how firms and industries are affected by the planetary boundary processes and conditions.…”