How sovereigns manage carbon emissions and renewable energy usage is going to be an increasingly important risk indicator for government bond buyers, according to a new report from a collection of investors and academics.
For both advanced and developing countries, the researchers from Ardea Investment Management, Fortlake Asset Management and at the University of Technology, Sydney found a strong positive association between lower carbon dioxide emissions and lower borrowing costs.
In the report, titled Climate Transition Risk in Sovereign Bond Markets, the researchers assessed transition risk factors, macroeconomic fundamentals and sovereign yield spreads across 39 countries between 1999 and 2021 to reach their conclusions.
Not all climate factors had the same effect on both advanced and developing economies, however. Unlike carbon dioxide emissions, when it came to earnings from natural resources rents and renewable energy consumption, the trends for the two cohorts diverged.
In advanced economies, higher earnings from resource rents was correlated with higher borrowing costs. Higher renewable energy consumption, meanwhile, was correlated with lower borrowing costs.
“The adoption of renewable energy was found to be an economically and statistically significant mitigation strategy, as the supply and consumption of clean fuel sources could drive economic growth, counteracting any short-term financial losses from the non-renewable energy sector,” said Dr Laura Ryan, head of research at Ardea, and one of the report's authors.
At the same time, for developing nations, higher earnings from resource rents were associated with lower borrowing costs, and elevated renewable energy consumption was not correlated with lower borrowing costs.
That divergence suggests investors prioritise more short-term factors when buying debt from developing nations, said Fortlake’s deputy chief investment officer, Dr Kylie-Anne Richards, another of the report's authors.
Those factors include "a developing country's ability to repay debt and the fact that the profits from high natural resources rents may be higher than the uncertain payoff of transition”, Richards said.