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Factor Investing in Paris: Managing Climate Change Risk in Portfolio Construction

Research output: Contribution to Journal/MagazineJournal articlepeer-review

<mark>Journal publication date</mark>7/12/2022
<mark>Journal</mark>Journal of Investment Management
Issue number4
Number of pages17
Pages (from-to)35-51
Publication StatusPublished
<mark>Original language</mark>English


The 2015 Paris Agreement is a landmark in limiting emissions and targeting global warming well below 2C, preferably 1.5C compared to pre-industrial levels. In this light, we investigate how to efficiently construct equity portfolios that help mitigating climate change risk but at the same time enable harvesting well-established return drivers such as value, momentum or quality. A pure reduction in greenhouse gas intensity or a divestment from fossil fuel sectors is not necessarily leading to a better temperature alignment of a portfolio. Given the limited set of temperature-aligned assets, keeping the average temperature increase below 2 degrees comes with considerable active risks. To this end, we propose a net zero portfolio construction framework that brings temperature alignment together with a reduction in carbon intensity while harvesting equity factor premia.