Energy commodity spillovers and herding behavior: Evidence from EU ETS-listed firms

This paper analyzes the relationship between herding behavior and energy system's connectedness for a relevant sample of listed firms covered by the European Union Emissions Trading System (EU ETS). We analyze 345 EU ETS-listed firms, highlighting how connectedness is relevant in explaining the clustering of investment decisions, particularly during volatile market phases. Specifically, during distressed periods, higher energy system's connectedness fosters herding behavior, while a reduction in connectedness leads to greater investment dispersion. Moreover, a heterogeneity analysis across sectors and several robustness checks support these findings for energy firms, while revealing more mixed results for manufacturing companies. We further demonstrate that a buy-sell trading strategy, which incorporates market volatility and connectedness information to detect herding behaviors, provides superior risk-adjusted performance compared to alternative strategies, such as equally weighted buy-and-hold and minimum connectedness portfolios.