The performance of low-carbon equity funds

Abstract

This study examines the performance of low-carbon equity funds by gaining a better understanding of what drove past performance, what opportunity costs arose from higher idiosyncratic risks, and which components would shape future expectations. Low-carbon funds outperformed medium- and high-carbon funds under traditional factor models, but this advantage declined after incorporating carbon-related factors and fund characteristics. Adjusting for the opportunity costs of idiosyncratic risk particularly weakened low-carbon fund performance. Considering factor premia, exposures, characteristics, and diversification costs, investors should expect lower returns relative to a passive market-wide benchmark and roughly comparable outcomes across low-, medium-, and high-carbon funds.