Weekly round-up: June 28 - July 2

The top five climate risk stories this week

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1) Nine in ten banks say climate change a major risk — survey

Over 90% of bank chief risk officers (CROs) say climate change is the top emerging risk over the next five years, new survey results show. Almost half see it as a top risk over the next year, up from just 17% 18 months ago.

EY and the Institute of International Finance (IIF) polled 88 financial institutions across 33 countries as part of their annual global bank risk management survey.

Though CROs are prioritising climate change to a far greater degree than in previous years, the majority believe their boards are not as switched on to this risk. Just 37% of CROs said they thought climate change was garnering boards’ attention over the next 12 months. However, this percentage rose to 96% when extended to a five-year view.

The survey also found that 57% of risk heads believe that climate savvy will be one of the most important risk management skills over the next three years, more than data modelling, governance risk and controls, and machine learning.

And despite the fact most financial regulators are yet to build climate considerations into their prudential frameworks, 53% said they expect new capital and liquidity requirements in the context of climate change over the next three years.

EY and the IIF also identified 12 ways in which banks are analysing and managing climate risks. The most cited by CROs was including climate change in their scanning of emerging risks, while 43% said climate risks are embedded in their enterprise risk management framework and 26% that they have “enterprise-level” climate risk metrics in place.

2) Shaky EU banks more exposed to physical climate threats — report

Physical climate risks are elevated among the weakest banks in the European Union, a new in-depth study shows.

Banks’ median exposure to companies with high or increasing physical risks is six times higher among the bottom quartile of banks by capital strength relative to the top. Median exposure is twice as big for the 25% of banks with the lowest return on equity in relation to the 25% most profitable.

These findings suggest that climate-related physical risks, if realised, could cause outsized losses to the most vulnerable lenders in the EU.

The data was part of a joint European Central Bank (ECB) and European Systemic Risk Board (ESRB) report on climate-related risks and financial stability, published on Thursday, which covered both physical and transition hazards and their interaction with the EU banking sector.

Among its other findings, the report said that river floods are the greatest physical climate threat to banks’ balance sheets, with 10.6% of credit exposures to non-financial companies (NFCs) subject to high or increasing levels of this risk. Significant percentages are also vulnerable to heat stress, water stress, and wildfires. The ECB/ESRB used analysis of physical risk indicators produced by FourTwentySeven, a climate risk company owned by Moody’s, to run its analysis.

Source: ECB/ESRB

Today, river floods inflict around €7.8 billion worth of damages in the EU and UK each year. Under one projection, this could increase to nearly €50 billion given a 3°C global warming scenario, the report said.

The ECB/ESRB also produced data showing that more than 70% of the loans to firms with high physical risks are held by 25 banks. However, because of these banks’ size, their individual exposure is typically lower than 7% of their total assets, though seven banks have exposures of more than 10%. These findings were initially reported by the ECB in its annual Financial Stability Review.

As for transition risks, the ECB/ESRB found that these are most concentrated in banks’ corporate loan portfolios. Corporate loans to NFCs in climate policy-relevant sectors (CPRS) make up 52% of banks’ total, compared with 39% in the aggregate NFC securities portfolio. Altogether, these CPRS exposures make up 14% of total bank balance sheets. The agencies said this implied transition risks to financial stability are “broadly manageable”.

However, they added that lenders could run into trouble “in the event of sudden changes in carbon prices” if their borrowers do not clamp down on their emissions.

The ECB/ESRB caveated that “a high degree of measurement uncertainty” complicates an accurate assessment of financial institutions’ exposures to climate risks, largely because of patchy data.

“For the moment, recourse to private data providers is essential to fill existing gaps. In time, ongoing official sector initiatives in Europe and in global standard-setting bodies alike to shore up disclosures, standards and taxonomies should go a long way in addressing outstanding issues,” the report said.

3) Tighter sustainability rules needed to combat asset manager ‘greenwashing’ — Iosco

The poor sustainability-related practices of asset managers, patchy disclosures, and the lack of a common language on what makes a product environmentally-friendly has led to a risk of greenwashing and investor confusion, the International Association of Securities Commissions (Iosco) has said.

The group, which includes securities regulators from Europe, Asia, and the Americas, proposed that agencies review their current rules and consider introducing sustainability-focused requirements to push back against this risk in a report published Wednesday.

In particular, Iosco recommended that regulators should clarify, expand, or create from scratch new requirements to improve product-level disclosure on sustainability issues by asset managers. They should also consider whether they have the tools for supervision and enforcement necessary to combat greenwashing.

A 2019 survey of securities regulators by Iosco found that only 45% had done work relating to the risks associated with the greenwashing, and 64% had no specific rules on greenwashing in place. 

A poll of regulators conducted for this latest report found that most member jurisdictions rely on current supervisory and enforcement tools to deal with sustainability-related misconduct. Many also said that there are “difficulties in comprehension of greenwashing issues” across departments.

The Iosco report and recommendations are open for consultation until August 15.

4) EBRD partners lack climate knowledge

Banks in Central and Eastern Europe (CEE) and Central Asia have low awareness of climate risks and need support from international partners to grapple with the challenges they bring, a new survey by the European Bank for Reconstruction and Development (EBRD) reveals.

The EBRD, which invests to build up market economies in developing countries, polled 215 partner financial institutions and found that just 43% consider the climate risks in their portfolios, like the greenhouse gas (GHG) emissions they finance. Just four in 10 were found to include their risk functions in the implementation of their climate risk management programmes.

The EBRD concluded that a lack of tools and processes was hindering greater engagement on climate risks and opportunities. Asked what the three most important kinds of support needed from the EBRD to address climate change, the survey respondents said upskilling, raising awareness, and capacity building across all relevant departments.

Banks in EBRD countries have some of the world’s most carbon-intensive economies. Fourteen have CO2 emissions relative to GDP above the global average, including Turkmenistan, Mongolia, and Ukraine.

5) UN launches portfolio impact tools for banks

Members of the UN’s Principles for Responsible Banking (PRB) have two new tools with which to measure the positive and negative impacts their investments have on people and the environment.

On June 30, the UN Environment Programme Finance Initiative (UNEP FI) launched the Real Estate Impact Analysis Tool and Investment Portfolio Tool to identify the impact areas affected by banks’ investments and assess the magnitude of their effects on these areas.

Banks can input data on the different financial assets held in their portfolios, the underlying activities they reference, their country, and the investment intentionality — meaning whether the bank holds the instruments to maximise returns, or to achieve returns alongside other ESG-type outcomes. The tools then churn out the inputted portfolio’s impact associations — including on climate, biodiversity and ecosystems, and air and water quality.

The tools are intended to help banks fulfill the second principle set for UN PRB members: to “continuously increase” positive impacts “while reducing the negative impacts on, and managing the risks to, people and environment” and publish targets for those areas in which they can have the biggest impact. The new tools complement the Bank Portfolio Impact Analysis Tool, for bank loan portfolios, released in 2020.

There are 235 signatories to the PRB, including systemically important banks Citi, BNP Paribas and Banco Santander.

Separately, a group of banks, together with Harvard Business School, set up the Banking for Impact (BFI) working group to build a common impact measurement framework for lenders. ABN Amro, Danske Bank, DBS Bank and UBS are the founding members.

“BFI will define a robust, scalable and cost-effective method for the quantification, valuation, attribution and aggregation of impacts for the sector. And with industry involvement the goal is to scale up and standardise these efforts over time”, the group wrote.

Please send questions, feedback and more to louie.woodall@climateriskreview.com

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The views and opinions expressed in this article are those of the author alone

First Image: OSORIOartist / Shutterstock.com, Second Image: Lisa-S / Shutterstock.com, Fourth image: Susan Santa Maria / Shutterstock.com, Fifth image: Barbara Froehlich / Shutterstock.com, All other images under free license through Canva.