Trucost Blog / 01 Mar 2019

Climate Change and the Bottom Line

It is becoming widely accepted that high-carbon activities present considerable threats to social, environmental, and financial stability. Carbon pricing mechanisms ­ such as emissions trading schemes, taxes on carbon or fuel, and the removal of fossil fuel subsidies ­ can help provide the incentives needed to change company behaviour.

It is becoming widely accepted that high-carbon activities present considerable threats to social, environmental, and financial stability  –  Carbon pricing mechanisms ­ can help provide the incentives needed to change company behavior.

Carbon pricing mechanisms ­ such as emissions trading schemes, taxes on carbon or fuel, and the removal of fossil fuel subsidies ­ can help provide the incentives needed to change company behavior. The private market will play an important role, too, as capital is redirected to companies that can be financially resilient as carbon costs rise.

Assessing the Impact of Increased Carbon Costs on Profits

Trucost examined 500 of the world’s largest listed companies to identify carbon price risk among entities that are widely held by the investment community. The analysis found that the scale of emissions is not the only driving factor. Site locations, the timing and nature of carbon pricing policy, and a company’s ability to absorb additional costs all contribute to the final risk calculation. In addition, the market conditions of the sector plays a significant role, as does geographic diversification.

Integrating Future Carbon Price Risk into Scenario Analysis

Although we have seen an increase in the number of companies that use an internal carbon price to manage climate risks, many are unprepared. As a result, investors need to evaluate the potential impact different carbon pricing scenarios could have on financial performance.

Knowing where to start can be challenging since there are many possible scenarios and time horizons to consider. To help investors, Trucost has compiled a dataset of possible future carbon prices that can be used to stress test a company’s ability to absorb costs. Integral to this analysis is the quantification of a Total Risk Premium – the difference between what a company pays for emitting carbon today and what it may pay in the future under three different policy scenarios:

  • A low scenario set of carbon prices, which would limit global warming to between 2.7 and 3.0 degrees Celsius above pre-industrial levels.
  • A moderate scenario set of carbon prices that would limit global warming to 2 degrees Celsius above pre-industrial levels, but which assumes delayed action in terms of price rises in the short term.
  • A high scenario that estimates the price pathway that would be required to limit global warming to 2 degrees Celsius.

These stress tests introduce a new measure of sustainability by identifying organizations with profit margins that could be compromised by increased carbon costs over a medium- or long-term horizon.

 

Get More Details

Read TCFD Scenario Analysis: Integrating future carbon price risk into portfolio analysis. The report features an analysis of carbon price risk, plus the calculation of Carbon Earnings at Risk for a hypothetical portfolio. It also examines how the Trucost dataset can be extended to understand potential Value at Risk for equity and credit investors.

To learn more about Trucost’s Carbon Earnings at Risk data, please contact us at

tc-investor@spglobal.com.

 

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