Episodes of extremely hot weather lead to declines in market value, according to new research.
This is especially true in the South and Southeast, and for small firms—which lost an average of more than $17 million in the month following the hot weather.
“These findings of a negative market response imply that the equity market recognizes but underprices weather-related climate risk,” says Paul Griffin, an accounting professor at the Graduate School of Management at the University of California, Davis.
The study is one of the first to examine and quantify the impact of physical climate risk on corporate market values.
The researchers used National Oceanic and Atmospheric Administration data on thousands of heat events—from what is considered “extreme” by local standards to weather disasters with a cost of $1 billion or more—between 2003 and 2017. Then, by layering the timing and geography of these events with the main location of public companies’ operations, Griffin and his associates could measure the equity markets’ response.
The researchers found equity markets experienced a 0.42% loss in the first 20 days after the beginning of a heat wave and about 0.68% in longer heat waves. Investor losses grew to 1.38% for costlier events.
The most exposed firms lost 1 to 2% of their market value.
The researchers found a more negative response from investors in the most recent years of the study period and an increase in the volatility of returns after the first day of a heat event. So they conclude that while investors are increasingly incorporating an assessment of weather-related climate risk in pricing future equity returns, that risk is still underpriced.
“Barring more drastic action to curb and disclose corporate emissions,” Griffin notes, “if asset prices continue to underprice extreme weather climate risk, this could have devastating future market consequences.”
The study also shows that climate risk is local. Smaller firms were more vulnerable to losses from events in their region than were the big firms with operations in different locales. Ironically, the researchers write, the larger firms have been shown to generate higher emissions.
The research appears in Weather and Climate Extremes. Griffin will also present the work at the Yale Initiative on Sustainable Finance Symposium: State of ESG Investing.
Additional researchers from the University of Otago’s School of Business in Dunedin and Victoria University of Wellington’s Business School, both in New Zealand, contributed to the work.
Source: UC Davis