Weekly round-up: November 15-19

The top five climate risk stories this week

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1) Global banking regulators debut climate risk principles

Banks should gauge how climate risks could impact their capital and liquidity, a panel of global regulators has said.

The Basel Committee on Banking Supervision (BCBS) released a set of principles for managing and supervising climate-related financial risks for public consultation on Tuesday. The 18 principles — 12 for banks, six for supervisors — aim to provide “a common baseline” for lenders that operate across borders and their watchdogs.

Among the bank-specific principles, the BCBS says firms should identify and quantify climate risks and factor those that are material into their internal capital and liquidity adequacy assessment processes. Banks should further develop processes to weigh the “solvency impact” of climate risks that may manifest “within their capital planning horizons”. The typical capital planning horizon is 3-5 years.

As for supervisors, the principles say they should run checks to make sure banks incorporate material climate risks into their business strategies, corporate governance, and internal control frameworks. Part of this includes assessing how well banks’ boards and senior executives oversee climate risks.

The principles also emphasize the role of climate scenario analysis in the climate risk management toolkit. Banks are told to consider, where appropriate, scenario analysis — including stress testing — to evaluate how their business models and strategies would react “to a range of plausible climate-related pathways” and weigh the effect of climate risk drivers on their overall risk profile. For their part, supervisors are told to think about running climate scenario analysis to spot relevant climate risks to firms, measure portfolio exposures, root out data gaps, and learn about the adequacy of banks’ risk management approaches.

Public comments on the principles are welcomed until February 2022.

2) ECB sounds alarm on greenwashing

Greenwashing in financial markets has to be fought with high-quality data and improved rules, the European Central Bank (ECB) has said.

In its most recent financial stability review, published Wednesday, the ECB said that while investor appetite for ‘green finance’ has surged this year, “greenwashing concerns persist”. To combat these, the central bank said better information “especially in relation to forward-looking commitments and plans” is needed, as well as “enhanced standards”. Current European Union initiatives and global standard-setting work streams could help with this, the ECB added.

The EU is currently working on a Corporate Sustainability Reporting Directive, which will require all large firms in the bloc to publish environmental and social information from October 2022. The Directive covers 10 disclosure areas covering climate strategy, implementation, and performance measurement.

The ECB’s latest review also highlighted climate risks to EU insurers. Citing data showing how 2021 could be “one of the most expensive years for (re)insurers ever in terms of natural hazards”, the ECB said climate change poses “significant and increasing challenges for the euro area insurance sector”. It added that these challenges may cause insurance coverage against natural catastrophes to shrink in the medium term, reaffirming “the need to act quickly to tackle the risk of a growing insurance protection gap”.

3) Climate risks may lower credit ratings of structured finance products

Structured notes, securitizations, and other complicated financial instruments issued over the next decade may find their credit scores impacted by climate risks, Fitch Ratings has said.

Transition risks linked to policy shifts are predicted to affect structured products’ credit ratings first of all. In particular, Fitch said “the likely reclassification of ‘green’ assets over time” could cause structured products that reference carbon-intensive assets, like gasoline-powered automobiles or energy inefficient houses, to drop in price if investors prioritize environmental concerns over economic factors. In addition, a ‘green’ policy shift could increase costs for borrowers that issue structured products and cause their assets to lose value, putting pressure on their ability to repay.

Other transition risks, such as the move to a low-carbon energy system, could impact structured product ratings too because of their effects on employment and economic growth, while physical risks — like extreme weather — could erode the creditworthiness of structured products that rely on cashflows produced by fixed assets, especially when these assets are clustered in climate-vulnerable areas. 

Fitch added that climate mitigation and adaptation policies could go a long way towards shielding structured products from negative ratings downgrades, as they could spur economic growth and employment.

Structured notes, one kind of structured product, are enjoying a boom, with data from Structured Products Weekly showing new issuance hit $72 billion in 2020, up 36% on the year prior.

4) Climate risks intensifying for global insurers — BlackRock

Asset manager BlackRock found that 95% of insurance executives believe climate change will have serious implications for how they put together their portfolios.

The firm’s latest Global Insurance Survey, published Monday, also revealed that most firms want to transition their portfolios into sustainable investments. Half of these firms said they were motivated by the better returns available through such investments. BlackRock canvassed 362 insurance companies representing some $27 trillion in assets.

“An overwhelming majority of insurers view climate risk as investment risk, and are positioning portfolios to mitigate the risks and capitalize on the transformational opportunities presented by the transition to a net-zero economy,” said Charles Hatami, Global Head of the Financial Institutions Group and Financial Markets Advisory at BlackRock. “Insurers’ growing focus on sustainability should be a clarion call for the investment industry,” he added.

This week also saw developments in climate risk regulation for US insurers. On Monday, the New York State Department of Financial Services (NYDFS) published final guidance for insurers on identifying, managing, and disclosing their climate risks. The guidance asks insurers to check the current and forward-looking impact of climate change factors on their businesses, incorporate climate issues in their decision-making, use climate scenario analysis to inform strategy and risk management, and follow the reporting recommendations of the Task Force on Climate-related Financial Disclosures (TCFD). NYDFS supervises and regulates over 1,800 state insurance entities with combined assets of $5.5 trillion.

On Wednesday, the National Association of Insurance Commissioners (NAIC), a body of US state insurance regulators, published a report detailing its efforts to manage climate risks in the insurance sector. The Association also issued a written response to a request for information from the Federal Insurance Office, a division of the US Treasury, on how it and the broader insurance sector is responding to climate risks. In the letter, the NAIC said it is “confident” its approach “will strengthen the insurance sector and help ensure policyholders are better protected from the devastating costs of climate risks”.

5) UK pension schemes split over climate targets

Over one-quarter of UK pension schemes do not plan to set targets to cut their exposure to climate risks, a survey by trade body the Association of Consulting Actuaries (ACA) has found.

However, 61% have considered setting a target, with 33% either in the process of, or having completed, target setting already. Of this 33%, the majority (70%) have set a net-zero emissions target.

The ACA study, which yielded 212 responses covering 400 different pension schemes, also found that 78% of schemes are looking to their asset managers to engage with the companies their schemes invest in on climate issues.

Patrick Bloomfield, Chair of the ACA, said in response to the findings that he is “concerned about a hard core of trustees putting their head in the sand on climate risks, which is putting their members’ retirements at risk”.


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