Carbon emission and idiosyncratic risk: Role of environmental regulation and disclosure

The existence of a carbon risk premium has been widely studied, yet the relationship between carbon emissions and the idiosyncratic risk of individual stocks remains underexplored. This study examines the impact of carbon emissions on firms’ idiosyncratic volatility and future stock price crash risk in the Chinese A-Share stock market, along with potential transmission channels. The results show that higher carbon emissions are associated with increased idiosyncratic volatility and a greater likelihood of future stock price crashes. By comparing the effects of the Paris Agreement and China’s Carbon Peak and Carbon Neutrality goals, we find that financial markets respond more strongly to specific and enforceable policies. Using the establishment of environmental courts as a quasi-natural experiment, this paper further demonstrates that stronger regulatory enforcement amplifies carbon-related volatility and crash risk. Additionally, environmental disclosure enables investors to better assess a firm’s carbon risk, thereby reducing both volatility and crash risk. These findings further reveal the importance of implementing concrete climate policies to enhance market awareness of carbon risks and mitigate the financial impact of environmental regulation.