Biodiversity loss and financial markets risk: insights from a CoVaR approach

We analyze the impact of biodiversity loss on sector profits and losses, as well as financial system losses, using a CoVaR approach based on quantile regression. We introduce a world biodiversity index and a measure called CoBiodiversity to capture the dependence of extreme sector losses and profits on changes in biodiversity, and vice versa. Furthermore, ΔCoBiodiversity and ExposureCoBiodiversity measures assess the response of the sector tail risk to biodiversity degradation and the vulnerability of biodiversity loss to deteriorating or improving sector returns, respectively. Our results show a biodiversity loss risk premium, particularly for losses in the Energy sector, and profits in the Financials and Information Technology sectors. We also find a high system's market risk conditional on biodiversity loss, particularly during periods of distress such as the 2008 global financial crisis and COVID-19. Finally, the Energy, Materials, and Industrials sectors contribute the most to biodiversity loss, while the Consumer Staples sector contributes the least. These findings are important for academics, regulators, and investors to understand the relationship between biodiversity and the financial system.