| Abstrakt: |
How low can you reduce the carbon footprint associated with an index-based portfolio without creating unacceptable levels of active risk versus a capitalization-weighted benchmark? We find that an investor may be able to reduce the carbon footprint of a typical index-based portfolio by more than 50%, while keeping active risk low, near 1% tracking error volatility. This involves investing in companies with low greenhouse gas (GHG) emissions and reducing exposure to companies with high emissions. The intensity of emissions per unit of revenue is a particularly helpful metric. Portfolio screening is an effective approach that removes emissions-intensive companies from an index, but can create unintended sector, industry, country, and factor exposures in the portfolio. Using an integrated portfolio optimization approach to minimize carbon intensity, we can explicitly constrain multiple risk dimensions. Another approach we explore is a two-step process: 1) apply a screen to invest only in lower carbon-intensity stocks, then 2) optimize the portfolio by minimizing tracking error versus the index. We study the effects of constraints on the optimization problem and find that loosening sector and industry constraints enables a greater reduction in carbon emissions, without a significant increase in overall active risk. Specifically, underweights to utilities, energy, and materials allow for a greater reduction in carbon emissions. [ABSTRACT FROM AUTHOR] |
