Abstract
I investigate the exposure of sectoral equity portfolios to climate transition risks by augmenting a three-factor asset pricing model with a green-minus-brown (GMB) factor as a proxy. I estimate the relationship between risk factors and excess returns within an additive mixed model representation, which flexibly captures possible changes in investors’ subjective beliefs as reflected in the determinants of asset pricing. Empirical evidence is provided based on European sectoral portfolios covering the 2016–2021 period. Compared to classic linear models, the results show an improvement in model goodness-of-fit when flexibly estimating the relationship between risk factors and excess returns. I confirm previous studies that exposure to climate transition risks particularly affects high-energy-intensity sectors. I also find heterogeneity in exposure between firms within each sectoral portfolio in terms of the sign and/or magnitude of estimates. Moreover, some firms still have no statistically significant exposure to climate transition risks.
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