Stocks in Toronto are booming because of Canada’s treasure trove of red hot resource companies, but the market’s dependence on rocks, trees and oil carries an underappreciated risk. Canadian shares are heavily exposed to any move to put a price on carbon dioxide emissions.

A call for such a tax was made Tuesday by a federal advisory panel, the National Round Table on the Environment and Economy, which issued a study saying carbon pricing would enhance Canada’s economic competitiveness.

But the move would affect Canadian investors disproportionately, according to a new report by World Wildlife Fund Canada, an environmental group. In a ranking of stock indexes based on their vulnerability to the regulation of greenhouse gases, Toronto’s S&P/TSX composite index places third, after the MSCI Emerging Markets index and India’s BSE 500, which is the most carbon intensive of about a dozen major markets.

The risk that carbon pricing poses for stocks is difficult to quantify, and for now it remains mostly theoretical. Few jurisdictions outside of Europe have placed tight regulations on carbon emissions, but any serious global effort to curb climate change is almost certain to include some kind of charge on carbon dioxide releases.

“I think most people recognize that a price on carbon is inevitable,” says Josh Laughren, director of climate and energy at WWF-Canada. “The risk that Canadian investors would face will depend on what that eventual price of carbon will be.”

The Carbon Tax Risk

The WWF-Canada assessment is one of the first on the market’s vulnerability to a carbon tax. The group, using data from pension consultant Mercer and U.K. environmental data provider Trucost PLC, tabulated the impact such pricing would have on Canadian pooled funds – the portfolios holding assets for pension funds, endowments, and other institutional investors.

By analyzing $46.5-billion (U.S.) of shares held in 181 pooled investment vehicles, the report found that the average fund has less exposure to carbon emissions than the benchmark TSX index. This suggests that money managers may have adopted strategies to minimize carbon exposure. They can do this by underweighting heavy-emitting utilities, energy producers such as those involved in the oil sands, and material stocks.

The tabulation of how vulnerable companies in an index are to carbon pricing is based on how much of the gas each business emits for every $1-million in sales.

The WWF-Canada report said that Australia’s S&P/ASX, another market considered to have a heavy resource focus, has moderately less exposure to carbon than the TSX.

Avoiding Carbon Costs

The best market to avoid carbon costs would be the Russell 2000, an index that tracks U.S. small caps. Its exposure to greenhouse gases is less than half that of the TSX and about a quarter that of India. Japanese stocks also fare well.

Emerging markets tend to rank poorly because they have resource stocks and carbon emitting utilities.

The WWF-Canada report also tracked Canadian pooled fund investments in the oil sands, and found they held $3.7-billion in 20 companies. The largest investments were in two operators, Suncor Energy Inc. and Canadian Natural Resources Ltd., the latter company having the greatest exposure to future carbon costs.

Based on their investments, the funds own the equivalent of 115 million barrels of oil sands reserves. Assuming a tax of about $30 per tonne of carbon – one number commonly being floated – the likely emissions cost from these reserves would range from $297-million to $464-million, the report said.