Climate Change and Asset Prices: Are Corporate Carbon Disclosure and Performance Priced Appropriately?

• DOI: http://doi.org/10.1111/jbfa.12217
• Author: Andrea Liesen,Andreas Hoepner,Dennis M. Patten,Frank Figge
• Published date: 01 January 2017
• Date: 01 January 2017

Journal of Business Finance & Accounting

Journal of Business Finance & Accounting, 44(1) & (2), 35–62, January/February 2017, 0306-686X

doi: 10.1111/jbfa.12217

Climate Change and Asset Prices: Are

Corporate Carbon Disclosure and

Performance Priced Appropriately?

Andrea Liesen, Frank Figge, Andreas Hoepner and Dennis M. Patten∗

Abstract: This paper empirically assesses the relevance of information on corporate climate

change disclosure and performance to asset prices, and discusses whether this information is

priced appropriately. Findings indicate that corporate disclosures of quantitative greenhouse

gas (GHG) emissions and, to a lesser extent, carbon performance are value relevant. We use

hand-collected information on quantitative GHG emissions for 433 European companies and

build portfolios based on GHG disclosure and performance. We regress portfolios on a standard

four factor model extended for industry effects over the years 2005 to 2009. Results show

that investors achieved abnormal risk-adjusted returns of up to 13.05% annually by exploiting

inefficiently priced positive effects of (complete) GHG emissions disclosure and good corporate

climate change performance in terms of GHG efficiency. Results imply that, firstly, information

costs involved in carbon disclosure and management do not present a burden on corporate

financial resources. Secondly, investors should not neglect carbon disclosure and performance

when making investment decisions. Thirdly, during the period analysed, financial markets were

inefficient in pricing publicly available information on carbon disclosure and performance.

Mandatory and standardised information on carbon performance would consequently not only

increase market efficiency but result in better allocation of capital within the real economy.

Keywords: carbon disclosure, climate change, value relevance, disclosure quality, GHG emis-

sions, market efficiency, stock performance

1. INTRODUCTION

Climate change has developed into a widely accepted threat to our planet that requires

urgent regulatory responses (Stern, 2006; and IPCC, 2007). Within the European

∗The first author is affiliated with the Ume˚

a School of Business and Economics, Ume˚

a University, Sweden.

The second author is from Kedge Business School, Marseille, France. The third author is from the

ICMA Centre, Henley Business School, University of Reading. The fourth author is at the Department

of Accounting, Illinois State University, Norman, USA. The authors would like to especially thank the

anonymous reviewer, as well as seminar participants at the UN PRI conference 2013, for their very useful

comments. The authors gratefully acknowledge funding from the MISTRA foundation. MISTRA played no

role in the study design, the collection, analysis, and interpretation of data, in the writing of the manuscript

or the decision to submit the paper for publication. (Paper received February 2014, revised revision accepted

July 2016).

Address for correspondence: Andrea Liesen, Ume˚

a School of Business and Economics, Ume˚

a University,

901 87 Ume˚

a, Sweden.

e-mail: liesen@sustainablevalue.com

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36 LIESEN, FIGGE, HOEPNER AND PATTEN

Union (EU), the European Union Emissions TradingScheme (EU ETS), the EU policy

guiding principles to make polluters pay (European Council, 2006) and national

taxes on energy use and carbon dioxide are just a few examples of political initiatives

aiming to reduce climate change. At the same time, market initiatives such as the

Carbon Disclosure Project (CDP) (Carbon Disclosure Project, 2008) and the Climate

Principles (The Climate Group, 2011) have been established to motivate reductions in

corporate GHG emissions, turn ‘climate change into a business risk’ (Pattberg, 2012,

p. 619), or to allow investors to better grasp the financial risk stemming from climate

change.

Among companies, the concern that climate change impacts or potentially impacts

financial performance appears to be widely recognised: of the 358 FT500 companies

that responded to the CDP during the earlier years covered in this study, 87% reported

that climate change constitutes a commercial risk and/or challenge to their business

(Carbon Disclosure Project, 2006). On financial markets, as a consequence of these

risks and the imminent challenge to transform to a low carbon economy, a significant

re-distribution of shareholder wealth is expected to take place (Carbon Trust, 2006).

Nevertheless, and despite the growth of the socially responsible investment (SRI)

industry in recent decades, market participants only slowly adjust their investment

behaviour to incorporate the financial risks resulting from political and market

initiatives for the mitigation of climate change. For example, it was estimated that

during one of the years investigated in this study less than 0.1% of the over $40

trillion in assets of the investors that are signatories to the CDP were ‘invested in any

investment strategy which explicitly and systematically takes climate risk into account’

(Innovest, 2007, p. 3).

Investment practitioners generally expect that financial markets are ‘only beginning

to recognise the magnitude of impact the transition to a low carbon global economy

will have on companies’ competitive positions and long-term valuations’ (Goldman

Sachs Group, 2009, p. 2), and as a result the financial risk represented by political

and market initiatives for the shift towards a low-carbon economy ‘may not yet be

fully reflected in share prices’ (FTSE Group, 2012, p. 4).1These statements from the

investment practitioner community suggest a potential inefficiency of the market to

appropriately price information on the financial risk stemming from climate change.

According to the efficient markets hypothesis (EMH), efficient financial markets price

available information (Fama, 1970). Moderate proponents of EMH argue that markets

in practice are fairly – but not always – efficient (Renshaw, 1984; and Worthington and

Higgs, 2004). When markets are inefficient, market participants can use value-relevant

information, i.e. information that is relevant to the future earnings potential of a stock,

to achieve abnormal risk-adjusted returns. Once identified, market participants will

erase these abnormal risk-adjusted returns by trading on the underlying information

and, as a result, turn financial markets efficient (Lee, 2001). Stock markets are thus

made efficient by market participants believing they are inefficient (Grossmann and

Stiglitz, 1980; and Dimson and Mussavian, 1998), searching for inefficiencies and

acting on arbitrage opportunities. The same underlying process is valid for the appro-

priate pricing of value-relevant information on corporate sustainability performance.

As noted by, for example, Derwall et al. (2005) and Renneboog et al. (2008), risk-

adjusted returns of companies with good sustainability performance will only be

1 Similar conclusions can also be drawn for the granting of corporate bank loans (Hoepner et al., 2016).

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