[2022-02]
Drought and Energy Stock Markets in the United States
Kim, Seongeun
Moon Soul Graduate School of Future Strategy, KAIST
Jeon, Jooyoung
Moon Soul Graduate School of Future Strategy, KAIST
Kim, Hyungjun
Moon Soul Graduate School of Future Strategy, KAIST
Abstract
The climate change risk in financial assets is a growing concern for financial participants. In this study, we analyze the relationship between drought risk and the stock prices of US energy companies. To this end, we ranked the energy companies based on the long-term trend of the Palmer Drought Severity Index (PDSI). Our analysis indicates that firms located in drought-prone regions have lower stock returns than those located in regions with decreasing drought risk, particularly since 2010. This finding is noteworthy as our study identifies a concentration of energy companies in arid regions, and the average PDSI trend gap between these regions and low drought risk regions has widened during this period. We further divide our sample energy companies into two subsectors–fuel production and electric utility–and find that the stock prices of both subsectors have been negatively affected by drought risk since 2010. Our results provide evidence of the energy industry’s dependency on water availability from a financial market perspective.
Keywords: Climate Risk, Drought, PDSI, Energy Industry, Financial Assets
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