Abstract: This paper explores how the need to transition to a low-carbon economy influences firm credit risk. It develops a novel dataset which augments data on firms’ greenhouse gas emissions over time with information on climate disclosure practices and forwardlooking emission reduction targets, thereby providing a rich picture of firms’ climate-related
transition risk alongside their strategies to manage such risks. It then assesses how such
climate-related metrics influence two key measures of firms’ credit risk: credit ratings and
the market-implied distance-to-default. High emissions tend to be associated with higher
credit risk. But disclosing emissions and setting a forward-looking target to cut emissions
are both associated with lower credit risk, with the effect of climate commitments tending
to be stronger for more ambitious targets. After the Paris agreement, firms most exposed
to climate transition risk also saw their ratings deteriorate whereas other comparable firms
did not, with the effect larger for European than US firms, probably reflecting differential
expectations around climate policy. These results have policy implications for corporate
disclosures and strategies around climate change and the treatment of the climate-related
transition risk faced by the financial sector.