Biodiversity risk premium

Abstract

We identify a biodiversity risk premium (BRP) in investment strategies designed to mitigate biodiversity risks. To capture this premium, we construct optimised portfolios by reweighting approximately 3,000 constituents of the MSCI All Country World Index, using their MSCI biodiversity risk scores as a key screening criterion. Analysing data from 2013 to 2023, we find that biodiversity-screened portfolios exhibit lower risk-adjusted returns compared to randomly selected portfolios. This suggests the presence of a biodiversity risk premium: screening at three different intensities reduces the maximum attainable Sharpe ratio by 1.19 % to 4.14 %, a return loss of 16 to 60 basis points per year, of which 1, 5, and 11 basis points per year are attributable to the biodiversity criterion itself rather than to the reduced universe size. Our findings provide valuable insights into the pricing dynamics of biodiversity risk, enhancing the understanding of how natural capital considerations impact financial markets and investment strategies.