Green portfolio optimization: A scenario analysis and stress testing based novel approach for sustainable investing in the paradigm Indian markets

ArXiv ID: 2305.16712 “View on arXiv”

Authors: Unknown

Abstract

In this article, we present a novel approach for the construction of an environment-friendly green portfolio using the ESG ratings, and application of the modern portfolio theory to present what we call as the ``green efficient frontier’’ (wherein the environmental score is included as a third dimension to the traditional mean-variance framework). Based on the prevailing action levels and policies, as well as additional market information, scenario analyses and stress testing are conducted to anticipate the future performance of the green portfolio in varying circumstances. The performance of the green portfolio is evaluated against the market returns in order to highlight the importance of sustainable investing and recognizing climate risk as a significant risk factor in financial analysis.

Keywords: Green Portfolio, ESG Ratings, Mean-Variance Framework, Climate Risk, Sustainable Investing, Equities

Complexity vs Empirical Score

  • Math Complexity: 6.0/10
  • Empirical Rigor: 7.0/10
  • Quadrant: Holy Grail
  • Why: The paper employs advanced mathematical concepts like multi-dimensional optimization (Green Efficient Frontier) and stress testing within a modified CAPM framework, requiring dense calculations. Empirically, it details specific data sourcing (CRISIL, NSE), portfolio construction (25 stocks, weight optimization), and scenario analysis using real-world Indian market data.
  flowchart TD
    A["Research Goal<br>Construct & Analyze Green<br>Portfolio in Indian Markets"] --> B["Data: ESG Ratings &<br>Market Stock Data"]
    B --> C["Methodology: Green Mean-Variance<br>Optimization to find Green Efficient Frontier"]
    C --> D["Computations<br>Scenario Analysis & Stress Testing"]
    D --> E{"Key Findings/Outcomes"}
    E --> F["Green portfolios can match<br>traditional market returns"]
    E --> G["Climate risk is a critical<br>financial risk factor"]
    E --> H["ESG integration enhances<br>portfolio resilience"]