Carbon Intensity and the Cost of Equity Capital

Forthcoming in The Energy Journal

46 Pages Posted: 14 Sep 2017 Last revised: 24 Feb 2021

See all articles by Arjan Trinks

Arjan Trinks

University of Groningen - Faculty of Economics and Business

Gbenga Ibikunle

University of Edinburgh; European Capital Markets Cooperative Research Centre

Machiel Mulder

Centre for Energy Economics Research, University of Groningen

Bert Scholtens

University of Groningen - Department of Finance & Accounting

Date Written: September 14, 2017

Abstract

The transition from high- to lower-carbon production systems increasingly creates regulatory and market risks for high-emitting firms. We test to what extent financial investors demand a premium to compensate for such risks and thus might raise firms’ cost of equity capital (CoE). Using data for 1,897 firms spanning 50 countries over the years 2008–2016, we find a distinct and robust positive impact of carbon intensity (carbon emissions per unit of output) on CoE: On average, a standard deviation higher (sector-adjusted) carbon intensity is associated with a CoE premium of 6 (9) basis points or 1.7% (2.6%). This effect is primarily explained by systematic risk factors: high-emitting assets are significantly more sensitive to economy-wide fluctuations than low-emitting ones. The CoE impact of carbon intensity is more pronounced in high-emitting sectors, EU countries, and firms subject to carbon pricing regulation. Our results suggest that carbon emission reduction might serve as a valuable risk mitigation strategy.

Keywords: Carbon intensity, cost of capital, regulatory risk, asset pricing

JEL Classification: G11, G23, G32, M14, Q41

Suggested Citation

Trinks, Arjan and Ibikunle, Gbenga and Mulder, Machiel and Scholtens, Bert, Carbon Intensity and the Cost of Equity Capital (September 14, 2017). Forthcoming in The Energy Journal, Available at SSRN: https://ssrn.com/abstract=3035864 or http://dx.doi.org/10.2139/ssrn.3035864

Arjan Trinks (Contact Author)

University of Groningen - Faculty of Economics and Business

PO Box 800
Groningen, 9700 AV
Netherlands

Gbenga Ibikunle

University of Edinburgh ( email )

Old College
South Bridge
Edinburgh, Scotland EH8 9JY
United Kingdom

European Capital Markets Cooperative Research Centre ( email )

Viale Pidaro 42
Pescara, 65121
Italy

Machiel Mulder

Centre for Energy Economics Research, University of Groningen ( email )

Postbus 72
9700 AB Groningen
Netherlands

Bert Scholtens

University of Groningen - Department of Finance & Accounting ( email )

P.O. Box 800
9700 AH Groningen
Netherlands

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