Working Paper: CEPR ID: DP13730
Authors: Robert F. Engle III; Stefano W. Giglio; Bryan Kelly; Heebum Lee; Johannes Stroebel
Abstract: We propose and implement a procedure to dynamically hedge climate change risk. We extract innovations from climate news series that we construct through textual analysis of newspapers. We then use a mimicking portfolio approach to build climate change hedge portfolios. We discipline the exercise by using third-party ESG scores of firms to model their climate risk exposures. We show that this approach yields parsimonious and industry-balanced portfolios that perform well in hedging innovations in climate news both in sample and out of sample. We discuss multiple directions for future research on financial approaches to managing climate risk.
Keywords: No keywords provided
JEL Codes: G11; G18; Q54
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| dynamic hedging approach (G13) | hedge long-run exposure to climate risk (Q54) |
| constructed portfolios (G11) | hedge against short-term innovations in climate news (Q54) |
| methodology (B41) | portfolios perform well in hedging innovations in climate news (G11) |
| ESG characteristic-based portfolios (G11) | outperform alternative hedge portfolios (G11) |
| larger firms (L25) | greater exposure to climate news (Q54) |
| portfolios based on ESG scores (G11) | positive relationship with innovations in negative climate news (O36) |
| constructed portfolios (G11) | substantial portion of variation in climate news can be hedged (Q54) |