Do green financial policies offset the climate transition risk penalty imposed on long-term sovereign bond yields?

Abstract

Asset valuations in high-carbon sectors face significant corrections due to climate risks. This paper specifically analyses whether markets impose a penalty on long-term sovereign bonds issued by countries facing higher climate-related transition risk while rewarding those that have implemented green financial policies to mitigate these risks. We find that higher carbon dioxide emissions and a lower sustainable development score (both proxies for transition risks) lead to an increase in long-term sovereign bond yields. However, the presence of green financial policies appears to offset this climate transition risk premium.