Without urgent climate action, global equity values face severe risks, with potential losses exceeding 50% due to climate tipping points, according to findings from the Edhec-Risk Climate Impact Institute. The study, conducted by Edhec, a business school and risk and investment management research centre, extended traditional valuation techniques to evaluate the impact of climate and economic uncertainties, financial contingencies, transition costs and physical risks on global equity values.

In a press statement on 18 July, Edhec researchers key findings, emphasising that the impact of climate risk on global equity valuations is particularly pronounced in scenarios with limited climate action. They estimated that over 40% of global equity value is at risk if decarbonisation efforts do not accelerate, with potential losses exceeding 50% when climate tipping points are factored in. Conversely, prompt and robust abatement action could limit losses to below 10%.

The 78-page identified several critical factors influencing equity valuation, including the aggressiveness of emissions abatement, the location of climate tipping points and the willingness and ability of central banks to lower rates during economic distress. It underscored that uncertainty regarding climate and economic outcomes, as well as state-dependent discounting, are key contributors to changes in equity valuation.

The Edhec-Risk Climate Impact Institute also introduced several methodological innovations. The research utilised a fully probabilistic approach, incorporating climate and economic uncertainties into a probabilistic framework for a more comprehensive evaluation of potential outcomes. Additionally, the study performed a joint analysis of transition costs and physical risks by upgrading a popular integrated climate economics assessment model. This approach allowed for the estimation of how regulatory measures to reduce greenhouse gas emissions and physical damages affect global equity values, offering a unified view of climate-related financial risks, stated Edhec.

Frédéric Ducoulombier, director of the Edhec-Risk Climate Impact Institute, noted that the research team, led by Ricardo Rebonato, had upgraded mainstream integrated assessment models to incorporate advancements in climate science, making them applicable for financial contexts. By modelling the significant uncertainty in the physical and economic aspects of climate change and linking it to equity valuation, the study refuted the notion that financial assets might be immune to climate impacts and highlighted the need for decisive climate action.

Ricardo Rebonato, scientific director of the institute, emphasised that the results, based on conservative assumptions, underscore the importance of uncertainty and state-dependent discounting in climate-aware equity valuation. He pointed out that the approach demonstrated the feasibility and advantages of integrating climate risks into financial analysis and expressed the intention to develop further theoretically robust and practically implementable tools for climate-aware investment management.