Carbon Exposure, Disclosure, and Investment: A TSVF-Based Asset Pricing Study

Introduction: Traditional asset pricing methods do not properly account for the forward-looking risks associated with a transition to a low-carbon economy. While size, value, profitability, and investment characteristics are used by multifactor frameworks to explain expected returns, they ignore systematic valuation effects carried due to carbon exposure, green capital allocation, and climate disclosure transparency.

Methods: This study uses an asset pricing framework for Indian stocks to capture firm-level climate transition sensitiveness using a new composite risk factor named the Transition-Sensitive Valuation Factor (TSVF). We formulate an enhanced asset pricing model that incorporates TSVF parameters—Carbon Intensity (CI), Climate Disclosure Score (CDS), and Green Capital expenditure (GCapex)—alongside conventional risk factors. We analyze whether TSVF have an impact on firm valuation (Tobin’s Q and M/B ratio) and whether transition preparedness is systematically priced using Fama–MacBeth cross-sectional estimations within CAPM, Fama–French three-factor (FF3), and five-factor models (FF5), as well as portfolio-level time-series regression. 450 firm-year observations from 75 BSE 100 ESG non-financial companies during 2014-2024 is considered.

Results:Through panel regression, CI was inversely related with Tobin’s Q and M/B ratio and CDS and GCapex positively connect with firm value and Tobin’s Q. Moreover, incorporating TSVF enhances model fit and lowers abnormal returns. Portfolios sorted by transition sensitiveness reveal a consistent pattern in climate betas with a significant positive risk premium. Factor spanning tests indicate TSVF contains unique pricing information beyond traditional factors. High-Minus-Low TSVF portfolio spread yields an annualized premium comparable to established size and value effects. Finally, the GRS test implies that augment TSVF five factor model have greater explanatory power than traditional models.

Conclusion: These results suggest that climate transition sensitiveness is a significant systematic risk factor in the Indian equity market, linking sustainability reporting and multifactor asset pricing theory.