Week 1

Question 1

What is meant by carbon being a stock problem

Answer 1

• the issue is about accumulation of carbon in the atmosphere and it is a global negative externalitiy
• idea of the carbon budget reinforces this idea

Question 2

what is the carbon budget ?

Answer 2

to limit warming to 1.5oC with an 83% probability a max total amount of 300gt of CO2 can be emitted as of 2020 (IPCC)

Question 3

What does the IEA estimate yearly global CO2 emissions from human activity to be ?

Answer 3

40 gt

Question 4

When will the carbon budget be exhausted?

Answer 4

at the current rate in less than 6 yrs

Question 5

What are some of the general issues about climate damages

Answer 5

disproportionately effecting the poor
- dont have the financial capacity to absorb the damages
- uninsured against climate physical risk
- international community is v slow to respond to the change

Question 6

Honduras had 2x hurricanes Eta and Iota how much of the GDP did it cause in losses

Answer 6

20% - $5b

in 2020 their GDP contracted by 9%

Question 7

What are reinsuring companies?

Answer 7

insurance companies that deal with some physical risks and damages
v large AUM globally exposed - make them exposed to CC risk

Question 8

What did the Swiss Re Insitute predict about GDP is no action is taken?

Answer 8

cc will impact 48 countries represeting 90% of the world economy

there will be a 20% loss in world GDP if no action is taken

Question 9

What does the wrold economic forum risk perception survey 2021-2022 say are the top 3 risks

Answer 9

1. climate action failure
2. extreme weather
3. biodiversity loss

Question 10

WEF risks ranking on a global scale - what are top three in the following periods

0-2 yrs

2-5 yrs

5-10 yrs - list as many as you can of the top 5

Answer 10

0-2
extreme weather
livelihood crisis
Climate action failure

2-5
Climate action failure
extreme weather
social cohesion erosion

5-10
climate action failure
extreme weather
biodiversity loss
natural resource crisis
human environmental damage

Question 11

What are NDCs

Answer 11

an outcome of the Paris 2015 agreement

an agreement by all signatories to act on climate change and make a contribution

even with best case scenario with full implementation of tagets and net zero targets of long term pledges and NDCs we are off target with a warming projected between 1.5-2.4oc

Question 12

Why is Paris seen to be a turning point

Answer 12

new approach
- inclusiveness
- bottom up rather than top down - NDCs
- participation by sub-national institutions and organisations like coalitions of municipalities, business, and financial institutions

Despite the fact it was imperfect - transformed the global approach to GHG emissions - more being done information wise for investors

Question 13

What is the portfolio decarbonisation coalition

Answer 13

investor action and climate change

when it comes to cc we are all players not spectators

criticised Cop 21 for cheap talk and a lack of enforcement pushing hard policies

Question 14

What are some of the criticisms of the INDCs submitted for COP 21

Answer 14

• Emission reduction target vary a lot in size
• they are not legally binding - no real implication if they don’t reach the target
• GHG/GDP - eg India, if they increase coal and increase GDP there emissions will not be reflected with this measure as they both go up
• different reference years and periods for implementation

Question 15

What is the Inflation Reduction Act

Answer 15

US government commiting to subsidise green activities like green energy and green investment

material impact on investors

Question 16

What are the finanical risks associated with physical risks

Answer 16

• global warming leads to lower productivity
• 14% drop in labor supply on days with max temp of 30oc in exposed industries
• greater natural disaster risks - flood, wildfire etc.

Question 17

What are some simple ideas for the financial risks of transition risks

Answer 17

regulatory and technological risks

chaning social norms

political risks - mass migration caused by cc

Question 18

When and Who did a survey on insitutional investors

Answer 18

Krueger, Sautner and Starks

March, 2020

Question 19

What did Krueger, Sautner and Starks find in the top 7 motivations for incorporating climate risks in the investment process that are key?

Answer 19

• benefical to investment returns (idea of doing well by doing good)
• reduce overall portfolio risks
  -reduced tail risk

other ideas - ESG reputation and also another part of fiduciary duty etc.

Question 20

From the KSS study what was more important physical or transition risk?

Answer 20

transition - higher wieght on regulatory and technological risks

Question 21

How many ii investors already believe that climate risks are materialising according to KSS?

Answer 21

75%

Question 22

From KSS how many asset managers already analyse the carbon footprint of their portfolio firms?

Answer 22

38%

Question 23

What is the argument for divestment and what are some organisations that support it?

Answer 23

Divestment is rising (KSS)

two different interpretations
- moral imperative - don’t want to hold these companies that produce carbon emissions
- divestment for hedging reasons

350.org advocates for divestment

a risk management approach makes sense

Question 24

What percentage of all stocks do the large ii own

Answer 24

25%

Question 25

what are the large ii that own all the stocks

Answer 25

black rock vanguard statestreet fidelity

Question 26

Example of an activist fund?

Answer 26

Engine Number 1 - proposal for alterantive directors to b put on the board for Exon

Question 27

What is Mark Carneys phrase and what does it mean?

Answer 27

the tragedy of the horizon shifts in our climate bring profound implications for insurers, financial stability and the economy the current issues pale in comparison of what is to come cc is the tragedy of the horizon - beyond the horizon of - the business cycle - the political cycle - the horizon of technocratic authorities like central banks who are bound by their mandates insurers response to physical risks can have a very real consequence and pose acute public policy problems an abrupt resolution of the ToH is a financial stability risk time is an important element - the less time there is the more risks there are with the process as there is less time to implement change and the rate of change will have to be faster

Question 28

Why is cc a risk-management problem

Answer 28

accounting for cliamte change risks means three things for investors 1. investors will seek to hedge cc risks by reducing their exposure to their risk 2. investors will demand compensation for holding this risk 3. investors will engage with companies to induce them to reduce the risk reducing exposure to carbon transition risk is a form of divestment is justified on prudential risk management

Question 29

What are transition risks from (general idea)

Answer 29

there is a tight link between emissions and temperature changes - but this link is not 1:1 decarbonisation commitments the stated objective is to reduce carbon emissions sufficiently to avoid an average temperature risk of more than 1.5 degree celsius by 2050 these commitments generate transition risks for corporations

Question 30

what are the two dimensions of transition risk

Answer 30

at what cost will carbon emissions decline, will they decline fast enough? how do investors percpetions and expectations about carbon risk evolve?

Question 31

How is risk perceived in finance and what it it

Answer 31

it is the idea of the unknown something that is different to what we expected. not about loosing money risk should be compensated with some expected return

Question 32

What is the issue with natural offsets?

Answer 32

in order to stay within the 1.5oc we need to get negative carbon emissions however the natural assets have been compromised and do not have sufficient capacity to get to the negatives

Question 33

What is CAPM and why is it useful

Answer 33

it is a model to think about the compensation for risk based on portfolio theory that mixes asset that end up with a portfolio frontier where there is an optimum portfolio of risky assets that maximises the tradeoff between risky assets and expected return however investors have different preferences of market portfolio and risk free assets therefore are generally choose to be along the line for the combination

Question 34

what is a beta? what relationship does it have with diversification ? what does it mean when it is high?

Answer 34

the beta of the market is the market risk - compensation should be relative to the beta - every asset should be proportionately rewarded relative to the beta risk through diversification you go from total risk to beta risk with a well diversified portfolio - idosyncratic risk becomes less impactful - only thing that matters is market risk the higher the beta the higher the compensation associated with the risk

Question 35

Can you explain what the Fama-McBeth 2-step procedure is to test CAPM

Answer 35

1. regress excess returns of asset i on the excess return of the market - time-series regression = delivers the beta for each asset I to form a portfolio of stocks decile portfolios based on the betas - 10% highest and lowest beta eg. 2. regress the average return on the beta and an intercept - cross-sectional regressions if the CAPM is true then the intercept alpha should - the risk free rate

Question 36

How do you know if a portfolio is under or over priced using a CAPM graph

Answer 36

CAPM says that no asset should be mispriced, everyone should be holding the market portfolio the higher the beta the lower the price - higher the beta the more risk if the portfolio is under the line it is over priced if the portfolio is over the line it is under-priced

Question 37

In what way does CAPM fail?

Answer 37

average portfolio returns deivate systematically from the security market line the higher the beta of the portfolio the higher the deveisation

Question 38

What are the two potential explanations for CAPM failure? and what do we need to do after each explanation

Answer 38

1. Assets are mispriced - money is left on the table - if this is true we can build a trading strategy and make money 2. Need more than one risk factor other than the market to explain the asset returns - If this is true need to look at other risk factors that predict returns - Arbitrage pricing theory - Fama-French - or look at stock characteristics that mimic risk factors - Daniel and Titman, 1997

Question 39

What are the LT and ST risks for carbon as a risk factor

Answer 39

LONG the LEVEL of the firms emissions determines their distance from net neutrality - idea of the size of the transition SHORT the CHANGE in emissions determines firm's progress towards net neturality

Question 40

What does the rate of reduction of carbon emissions depend on?

Answer 40

technological progress - expected cash floes the cheaper it is to produce alternative energy policy tightness - Lula vs Bolansaro - thinking about risk premia uncertain about each element increases transition risk - the cash flow effect

Question 41

What do investor perceptions about carbon risk depend on?

Answer 41

socio-economic environment stronger preferences for greening the economy amplify transition risk - discount rate effect

Question 42

How do you know that long term and short term carbon risks are different?

Answer 42

there is low correlation for the two measures across scopes this suggests that they are two independent risk factors

Question 43

If a compny had high emissions in the past..

Answer 43

they will likely have high emissions today - slow moving variable - takes time to decarbonise

Question 44

What is the relationship between market cap and emissions

Answer 44

largest market cap dont tend to have higher emissions emissions from production - companies like JP Morgan don't do much production important to think about industry variation and not just within but also across industry