Does Climate Change Sway Markets?

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Research finds retail investors revise their beliefs about climate change when directly experiencing the effects of warmer weather

Climate change is slowly transforming our living environment, but it is not unusual for many people to not take this seriously until they experience it on a personal level. Because everyone has only a limited span of attention, they tend to be better able to focus more on infrequent dramatic changes than on frequent gradual changes.

Our research suggested that it is only by appealing to the personal and salient experiences of individuals can the challenge of global warming be most effectively tackled.

Prof. Darwin Choi

Therefore, extreme local temperatures, such as the hot summer on record for Europe and China in 2022, may serve as a “wake-up call” for people to realise the full extent of climate change risks. Consider that Britain recorded its hottest day ever in July 2022, with the temperature exceeding 40 degrees Celsius, and a report estimated that Europe’s summer heatwave may have led to more than 20,000 “excess” deaths. So how do people react to abnormal local temperatures? Do people’s attention to global warming affect financial markets? We sought to look at these questions in the study Attention to Global Warming.

After analysing temperature and financial data in 74 cities with major stock exchanges, including London, New York, and Hong Kong, we found that the volume of Google searches for the term “global warming” increased when people were experiencing unusually warmer weather, and that people living in cities with higher abnormal temperatures are more likely to search for relevant information than those living in cities with lower temperatures.

Global temperatures have already risen by 1.1 degrees Celsius above pre-industrial levels, and the world has also witnessed a rise in extreme weather and climate events.

As investors, they also adjusted their trading activities. We found that carbon-intensive firms earn lower stock returns than those with low carbon footprints during abnormally warm weather. More specifically, investors may sell stocks that are highly sensitive to climate change, such as those that belong to industries identified as major emission sources by the Intergovernmental Panel on Climate Change, an intergovernmental body of the United Nations established to assess the science related to global warming, or if they have higher carbon emission levels relative to industry peers as estimated by MSCI ESG ratings. On the other hand, investors tend to buy stocks that are less climate change-sensitive as they outperform the former.

We also found that not all investors act in the same way. Our results indicated that retail investors tend to be more easily affected by abnormal weather, but we found no evidence that the same held for institutional investors.

As a critical long-term issue, global warming requires collective human action. Our research suggested that it is only by appealing to the personal and salient experiences of individuals can this challenge be most effectively tackled, such as by using maps to demonstrate how the potential rise in the sea levels as temperatures rise will affect everyone. We also expect that when the general population has a better understanding of the severity of global warming, the link between abnormal warm weather and stock prices would weaken.

To find out more about a specific topic, click on the links below to navigate to the relevant chapter:

INTRODUCTION – The Unstoppable Rise of Sustainable Investing

PART I – Does Climate Change Sway Markets?

PART II – The Power of Institutional Investors

PART III – Pollution and its Institutional Investor Discount

PART IV – Does Regulatory Risk Affect Retail Investment Decisions?

CONCLUSION – Adapting to Changing Investor Sentiment