Carbon Risk Factor Framework

Abstract

This research provides new perspectives on carbon risk factor by using raw carbon data; cleaning carbon data; analyzing global stock universe; utilizing a long data timeframe; and constructing three unique carbon factors. All three carbon factors (carbon volume, carbon financial efficiency, and carbon operational efficiency) exhibit strong performance and high Sharpe ratios; however, it is efficiency factors that show outsized performance, albeit with significant volatility. Within carbon volume factor, along six formed portfolios, there is no discernable return variation. Both efficiency factors show a discernable higher performance for higher carbon efficiency companies with larger market capitalization. The regression analysis shows all three carbon factors exhibiting statistical significance individually; however, when combined, carbon operational efficiency is the dominant risk factor.