 Physical vs. Transition climate risks: Asymmetric effects on stock return predictabilityMingtao Zhou and Yong Ma International Review of Financial Analysis, 2025, vol. 104, issue PA Abstract: This paper examines the predictive role of two dominant climate risk categories – physical and transition risks – in forecasting U.S. equity market risk premiums. The results reveal a pronounced asymmetry: physical climate risk significantly and negatively predicts stock returns both in-sample and out-of-sample, whereas transition climate risk demonstrates insignificant forecasting ability. This superior performance of physical risk delivers greater economic gains to investors and remains robust even after controlling for widely used economic predictors. However, its predictability is state-dependent, weakening during economic disruptions and strengthening following the COP21 Agreement. Further analysis shows that the cash flow and sentiment channels potentially drive the strong predictability of physical risk. Overall, our findings underscore the importance of incorporating physical climate risk into equity return forecasting models, offering actionable insights for financial decision-making processes. Keywords: Equity return forecasting; Climate risk; Physical risk; Transition risk; Return decomposition; Investor sentiment (search for similar items in EconPapers) Downloads: (external link) Related works: Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text Persistent link: https://EconPapers.repec.org/RePEc:eee:finana:v:104:y:2025:i:pa:s1057521925003539 DOI: 10.1016/j.irfa.2025.104266 Access Statistics for this article International Review of Financial Analysis is currently edited by B.M. Lucey More articles in International Review of Financial Analysis from Elsevier |
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