Do clean energy stocks diversify the risk of FinTech stocks? Connectedness and portfolio implications

Abstract

The FinTech sector is growing rapidly, prompting a need to explore effective investment diversification strategies for stocks in this sector. The existing literature has identified the benefits of using clean energy stocks to diversify stock portfolios and the purpose of this research is to estimate how useful clean energy stocks are for diversifying an investment in FinTech stocks. This study uses a QVAR model to estimate the dynamic return connectedness between FinTech stocks and clean energy stocks for the period September 2016 to April 2024. Total connectedness is time varying and is higher in the tails than at the median. The onset of the COVID-19 pandemic had a large but short-term impact on connectedness. Under normal market conditions, systemic risk increases by 3.5% per year. FinTech is a net transmitter of shocks to nuclear energy but is mostly unaffected by shocks from wind, solar, and nuclear energy stocks illustrating the diversification benefits of these sub-sectors. Portfolio analysis shows that adding solar, wind, and nuclear energy to a portfolio with FinTech can produce higher risk adjusted returns and lower drawdown than an investment solely in FinTech stocks. These results are robust across various portfolio rebalancing frequencies (daily, weekly, monthly). For example, a minimum connectedness portfolio rebalanced daily has an average annual return of 11% and a Sharpe ratio of 0.37. These values are higher than their respective values for an investment solely in FinTech stocks (5.4%, 0.11). Thus, clean energy stocks do provide diversification benefits for investments in FinTech stocks.