Empirical studies link extreme heatwave exposure to higher c…
Empirical studies link extreme heatwave exposure to higher corporate bond yields as they impose direct operating costs—such as elevated cooling expenses and reduced industrial output—that compress corporate cash flows. At the same time, expected future policy combatting climate change raises transition risks (e.g., carbon taxes), that raise corporate funding costs. In the following set of questions, you’ll quantify how physical (heatwave) and transition risks translate into yield premia for risk–neutral and risk–averse investors, compute variances, and compare which risk dominates total climate premium. Assumptions: A 1% rise in expected heatwave exposure increases corporate bond yields by 20 basis points. Baseline corporate bond yield is 2.50%. Coefficient of absolute risk aversion