27.01.2025Investors Consider Biodiversity Risks

New research shows that investors are beginning to factor biodiversity impacts into stock valuations, especially after key global policy developments aimed at protecting nature. 

Biodiversity loss is a growing global concern, with potentially far-reaching economic implications. A recent paper by Zacharias Sautner and Alexander Wagner from the Department of Finance at the University of Zurich and the Swiss Finance Institute studies a novel measure called the Corporate Biodiversity Footprint (CBF), which quantifies a company's negative impact on biodiversity. The authors explore whether investors are pricing this footprint into stock valuations.  

The researchers analyzed an international sample of more than 2,000 listed companies from 34 countries. Before October 2021, they found no significant relationship between a company's CBF and its stock returns. However, this changed dramatically following the Kunming Declaration, which concluded the first part of the UN Biodiversity Conference (COP15) in October 2021.  

After the Kunming Declaration, investors started pricing in biodiversity risks, anticipating future regulations targeting companies with significant biodiversity impacts. As a result, companies with larger biodiversity footprints had to deliver a risk premium to investors, as reflected in higher stock returns. Consistent with this finding, the authors show that in the three days after the Kunming Declaration, stocks of companies with large biodiversity footprints experienced a price decline relative to those with small footprints. A similar effect was observed following the launch of the Taskforce for Nature-related Financial Disclosures (TNFD) in June 2021, with stocks from large CBF companies seeing a 1.5% relative decline.  

“Our findings indicate that investors are beginning to perceive large biodiversity footprints as an investment risk, particularly in countries with low biodiversity protection where firms face greater transition risks due to the prospect of future catch-up regulations”, Zacharias Sautner explains the key finding. The authors also evaluated other possible explanations for the return effects they document, including shifts in investor preferences or unexpected cash flow shocks. However, the data did not confirm these alternative channels to explain the patterns.  

The research contributes to an emerging field of biodiversity finance and highlights the growing importance of considering biodiversity impacts in investment decisions. As awareness of biodiversity loss increases and regulatory frameworks evolve, companies and investors alike will need to pay closer attention to their biodiversity footprints and the associated financial risks and opportunities. 

One of the next steps in a follow-up project by the authors is to analyze biodiversity dependence, Alexander Wagner explains. Biodiversity dependence captures the extent to which a firm’s business activities depend on ecosystem services (e.g., water supply, flood protection, pollination). This is an important next step as our understanding of the dependence of firms on ecosystem services and the associated risks is still very limited. 

Biodiversity loss and climate change are two of the major crises of our era. While there is ample research on the potential consequences climate change for financial markets, research in biodiversity finance is lagging.

Although the two crises are related, biodiversity preservation can clash with actions taken to address climate change. For example, renewable energy and electric cars require lithium, cobalt, magnesium, and nickel, the mining of which comes with severe impacts on biodiversity (and on the human communities that rely on biodiversity). Therefore, it is important to understand not only climate risks but also risks related to biodiversity loss.

The research by Zacharias Sautner and Alexander Wagner offers a first step toward understanding biodiversity risks by introducing a measure of the corporate biodiversity footprint and exploring whether it is priced by investors.

Developed by Iceberg Data Lab, the CBF aggregates biodiversity loss caused by a firm's annual activities related to land use, greenhouse gas emissions, water pollution, and air pollution. It expresses this loss in terms of square kilometers of Mean Species Abundance (MSA), a metric that measures the relative abundance of native species in ecosystems compared to undisturbed ecosystems.

While sectors such as Retail & Wholesale, Paper & Forest, and Food have the largest average corporate biodiversity footprints, reflecting their intensive land use or contribution to air pollution, there is significant variation between firm within these industries.

More information:

Garel, Alexandre and Romec, Arthur and Sautner, Zacharias and Wagner, Alexander F., 
Do Investors Care About Biodiversity? (March 15, 2024). Review of Finance, forthcoming, Swiss Finance Institute Research Paper No. 23-24, European Corporate Governance Institute – Finance Working Paper No. 905/2023, Available at SSRN: https://ssrn.com/abstract=4398110 or http://dx.doi.org/10.2139/ssrn.4398110

The paper is also published in the Review of Finance:
Review of Finance, Volume 28, Issue 4, July 2024, Pages 1151–1186, https://doi.org/10.1093/rof/rfae010 (published 13 April 2024)

Iceberg Data Lab: https://www.icebergdatalab.com/solutions/biodiversity/