Carbon pricing and stock performance: Are carbon prices already more influential than energy prices?

Abstract

This paper assesses the relationship between carbon prices and the financial value of United Kingdom companies. It shows that the financial market co-moves with the UK-ETS at least as much as it does with other major energy commodities (i.e., oil, gas and electricity prices), and carbon prices are becoming the single most important energy or environmental variable to consider in determining corporate value. The results indicate that 14.1 % of total market capitalisation is exposed to carbon pricing ‘risk’, 20 % or more of the time. The Energy sector has the largest exposure with £251bn (41.51 % of this sector) exposed at least 20 % of the time. This is equivalent to one-twelfth of the economy’s GDP. Within the Energy sector, 13.5 % of all observations indicate net-positive relationship between carbon pricing and stock returns - these are likely to be associated with low carbon energy sources and technologies. The Financial sector is the second most affected sector with £117bn exposed to carbon pricing at least 20 % of the time. Finally, it is shown that information on ‘carbon sensitivity’ can be utilised to construct investment portfolios wherein carbon sensitive stocks under-perform against the market, while carbon insensitive (‘immune’) stocks closely track market benchmarks, depending on investment weighting strategy.