Carbon market and the conventional and Islamic equity markets: Where lays the environmental cleanliness of their utilities, energy, and ESG sectoral stocks?

This paper compares the dependency of the conventional and the Shariah-compliant stock markets on the carbon market in order to have a pronounced judgment about the cleaner nature of their environmentally-related sectors. As such, we employ the frequency-domain causality test and the time-frequency quantile crossspectral coherence methods to uncover the dynamic dependency structure in the joint distribution quantiles, which traditional methods are unable to reveal. We establish that carbon allowance returns uni-directionally Granger-cause all the sectoral stock returns (except the conventional utilities stock returns) at the lower quantiles, which imply long-term horizons. Furthermore, all the conventional sectoral stock returns are observed to be more negatively connected to carbon allowance returns than their Shariah-compliant variants across different market conditions. However, the highest and the least negative dependencies are respectively associated with the conventional environment, social and governance (ESG), and energy stock returns. On the other hand, the positive dependency results are heterogeneous across the two broad sectoral classifications, market states, and investment horizons. Overall, we establish that both the conventional and Shariah-compliant sectoral stock markets are gradually getting aligned with the goal of a cleaner environment, although it is stronger for the former. More so, the utilities and ESG sectors are more positively sensitive to the green agenda than the energy sector. The implications of the findings are helpful for clean-energy policymakers, carbon-pricing authorities, and energy market investors.

Automated summary

This paper compares the dependency of conventional and Shariah-compliant stock markets on the carbon market, revealing their dynamic dependency structure using frequency-domain causality tests and time-frequency quantile cross-spectral coherence methods. The findings show that both markets are gradually aligning with a cleaner environment, with the conventional market showing stronger alignment. The utilities and ESG sectors are more sensitive to the green agenda compared to the energy sector.