Impact of climate policy uncertainty on return spillover among green assets and portfolio implications

Abstract

Green assets play a crucial role in addressing climate change, encompassing sustainable development, public health improvement, and climate risk mitigation. This study investigates the return spillover among green assets and examines the impact of climate policy uncertainty (CPU) on their interrelationship, using a quantile connectedness approach. Empirical results show that return connectedness among green assets is particularly strong during extreme events, with a surge in total connectedness attributed to increased spillover between the green bond market and other green assets. Additionally, CPU reduces the connectedness among green assets, favouring the idiosyncratic channel over investors' uncertainty channel. Based on these findings, we propose a CPU-driven portfolio rebalancing strategy for green investors to enhance diversification across green stock, green bond, and renewable energy markets. Simulation results demonstrate that the CPU-based portfolios outperform the buy-and-hold portfolio in terms of average monthly returns, standard deviation, and risk-adjusted returns. The research highlights the need for policymakers to acknowledge and address climate policy uncertainty, as it influences the interconnectedness of green assets, offering an opportunity to refine policy frameworks to better support stable and resilient investment environments conducive to sustainable development goals.