The impact of carbon emissions on investment performance : an empirical analysis of how carbon footprint affects risk-adjusted return for stocks listed on the Oslo Stock Exchange

Abstract

Climate change have led to a rising interest in how climate risks affect investors portfolios. The purpose of this thesis is to increase investors understanding of how climate change can influence investment returns. Specifically, we examine whether low-carbon investments yield higher risk-adjusted returns than high-carbon investments. The study focuses on stocks listed at the Oslo Stock Exchange during the period 2010- 2018. We obtain the risk-adjusted returns by computing alpha estimates for portfolios consisting of stocks with low carbon footprints (good portfolio) and high carbon footprints (bad portfolio).We also compute alpha estimates for the difference portfolios based on a zero investment strategy that goes long the good portfolio and shorts the bad portfolio. The portfolios are sorted both on their scope 1 and scope 2 emissions. We employ the Captial Asset Pricing Model and the Carhart four-factor model to control for potential variations in risk exposure between the portfolios. Our results report significant positive abnormal returns in the difference portfolio for scope 1. We further detect negative abnormal returns in the bad portfolios for both scope 1 and scope 2. These results indicate that low-carbon portfolios outperform high-carbon portfolios and that stocks with high carbon emissions underperform in the market. The results further suggest that investors holding high-carbon stocks do not receive sufficient compensation for their level of risk. At a sector-level, stocks with high emissions in our dataset belong to the energy and industrial sector. Keywords – Climate Change, Carbon Footprint, Investment Performance