Climate change risk pricing in the European stock market

Climate risk is the potential risk for societies or ecosystems from the impacts of climate change. Whether financial markets price climate risks is critical to ensuring that the necessary funding flows into environmentally sound projects and that stranded assets risk is adequately managed along a ‘green transition path’. In this paper, we assess climate risks for the European stock market. We show that measures of returns spread of green vs. brown investment reflect climate risk and assets’ exposition to systematic macro-financial risk factors, which should be filtered out to measure climate risks accurately. We show that climate risks are priced by focusing on aggregate, industry, and company-level data. We propose a market-based green rating procedure to evaluate non-transparent and non-disclosing companies for which ESG information is unavailable. We illustrate its implementation using a sample of over 800 non-transparent firms.