Green bonds vs green sukuk: Can they protect against climate risks?

With the evolving nature of climate change threatening systemic investment risk, investors are constantly searching for assets that are resilient to climate risk and hold environmental principles. Given these factors, the study evaluates the hedging capabilities of green sukuk versus conventional green bonds against physical and transition climate risks, acknowledging their structural divergence. We employ novel quantile-on-quantile connectedness and quantile-on-quantile regression approaches to identify hedging and safe-haven attributes across climate risk levels. To achieve this, we use regional and country-level green bond indices, and we construct our green sukuk index using the methodology of Billah and Adnan (2024). Our analysis reveals the potential of conventional green bonds and green sukuks serving as a hedge and safe haven against physical and transition-related climate risks. However, both approaches reveal that green sukuks are better candidates than green bonds as a hedge and safe haven against climate risks, especially in the turbulent periods. These findings highlight that investors could consider green sukuk and green bonds as climate-resilient assets to utilize for diversifying portfolios and for policymakers to mitigate climate risk.