Transcript Climate_Change_and_F.. - Erasmus Mundus Students and Alumni

Climate Change and Financial Market:
The Case of CAT Bond
Jie Zheng
Finance PhD Candidate, CentER Graduate School
Tilburg University, The Netherlands
Erasmus Mundus Conference: Higher Education and Climate Change
26th - 27th February, 2009
Budapest, Hungary
Brief Contents
1. Introduction and Problem Statement
2. Climate Change and Financial Market
3. Conclusions
1.1 Increasing Climate Change Risks
General Warming of the earth’s atmosphere is almost
certain (IPCC, 2007)
1 The Intergovernmental Panel on Climate Change (IPCC) compiles the search findings on climate change from
various scientific disciplines and publishes them n a report-the latest in 2007
Blair on Climate Change (2006)
“The Scientific evidence of global
warming caused by greenhouse
gas emissions is now overwhelming.
It is not in doubt that if the science is
right, the consequences for our
planet are literally disastrous.”
1.2 Economic Repercussions of Climate Change
• Customers and investors will be
increasingly sensitive to climate issues;
firms will be challenged to respond.
• A rise in extreme weather events will
cause increasing wealth destruction and
earnings fluctuation; financing costs for
corporations and governments are likely to
rise.
• A global boom in climate protection and
adjustment will be set in motion;
corporations and consumers will have to
ear the resulting costs
1.3 Empirical Evidence
1.4 Financial Markets and Climate Changes
• Financial markets suffering from climate
change
• Financial markets fighting against climate
change:
> Ex-ante approach
e.g., carbon credits (clean development
mechanism, CDM)
> Ex-post approach (main point!!!)
e.g.,catastrophic risk insurance
contracts(CAT bond)
Brief Contents
1. Introduction and Problem Statement
2. Climate Change and Financial Market
3. Conclusions
2.1 Ex-ante: carbon markets (1)
• Developing countries participate through
the clean development mechanism (CDM)
• Industrial countries own and trade
property rights on the use of emission
limits for OECD
• Correcting missing property rights and
trading privately produced public goods
2.2 Ex-ante: carbon markets (2)
• Carbon market traded USD 30 billion in
2006 (world bank,2007);
• USD 8 billion in CDN projects in
developing countries (61% in China)
• Increasing investment & clean
technologies in developing countries
HOWERVER:
• US does not participate
• Carbon market accounts for 40% of global
emissions
• Carbon market and Kyoto Protocol expire
in 2012
2.3 Ex-post: securitization of catastrophe risks
2.4 Catastrophe bond
2.5 Brief description of catastrophe bond (CAT)
• First issued in the mid-1990s; worth USD
4.69 billion in 2006
• Designed to protect sponsors from the risk
of financial loss associated with large
natural catastrophes, e.g.,hurricanes and
earthquakes.
• Relatively short-term, most commonly
having maturities of between two and four
years
• Advantages:
> Sponsors’ access to capital market
> Reducing counterparty risk
> Diversity of investment portfolio
2.6 Transaction structure of CAT bond
2.7 Current problems with CAT bond
• Basis risk
• Underwriting and marketing costs
• Legal and regulatory issues
Brief Contents
1. Introduction and Problem Statement
2. Climate Change and Financial Market
3. Conclusions
3.1 Conclusions
• Financial markets play an important role today in
fighting against climate change
• New financial instruments are emerging in
response to the mounting climate changes.
• The market for catastrophe risks enables
previously uninsurable risks to be insured against
and the hedging costs to be minimized.
Questions??
THANK YOU!!!