Why financial firms should measure their exposure to climate-related risks

Since the signing of the Paris climate agreement in 2015, banks and money managers have faced growing pressure to gauge the threat posed by a warming planet

Consideration of nature is not yet a priority for most finance firms, according to the report by CDP. AP
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Most financial firms aren’t assessing their portfolio exposure to nature-related risks with the same urgency they use to measure climate impacts, a shortcoming that could lead to higher costs, litigation and a hit to reputations, according to a new report.

Only 20 per cent of financial companies measure their exposure to nature-related risk compared to the 85 per cent that calculate their potential vulnerability to climate effects, according to the report by CDP, which helps companies disclose environmental impact.

The analysis was based on disclosures made to the non-profit last year by more than 550 banks, insurers and asset owners representing about $8 trillion in market capitalisation. “Consideration of nature is not yet a priority for most” finance firms, said CDP.

They “remain largely blind to the risks.” One of the key risks is higher costs. BNP Paribas told CDP if banks are seen to be contributing to deforestation, they could face potential financial risks “in the order of 25 per cent of their market value” arising from litigation, reputation loss and other factors. Financial institutions are also exposed as a result of their lending and underwriting activity to businesses.

The World Economic Forum estimates that $44 trillion of economic value generation – more than half of the world’s total gross domestic product – is moderately or highly dependent on nature and its services.

Since the signing of the Paris climate agreement in 2015, banks and money managers have faced growing pressure to gauge the threat posed by a warming planet, as well as their contribution to it.

Yet researchers have also warned that the main goal of the pact – to limit warming to 1.5°C – can’t be met without protecting and restoring nature. Land-based and marine ecosystems, for example, currently absorb half of the human-made carbon emissions and play a vital role in regulating the climate.

The finance industry’s response to nature risk has been lacklustre so far. CDP found while nearly 95 per cent of finance firms said their business strategies or financial planning are now “influenced” by climate change, less than a third give similar attention to forest issues and water security.

That mirrors the focus of their boards on the topic: 91 per cent of financial institutions reporting to CDP have board-level oversight of climate-related issues, compared to 32 per cent with oversight of forests and water-related topics.

A separate analysis by Jefferies shows the finance industry is trailing non-financial corporations in awareness and preparedness for freshwater scarcity. Finance firms “see these issues as important, but not an immediate priority”, CDP said.

There is impetus for change. A recent international agreement on biodiversity, described as the Paris accord for nature, could persuade investors to take nature-related risks more seriously.

And several companies, including BlackRock, UBS Group and HSBC Holdings, have backed the Taskforce on Nature-related Financial Disclosures, a framework for organisations to report and act on nature-related risks.

CDP also offered examples of what it considers best practice.

In Brazil, Banco Santander monitors how vulnerable its clients are to water scarcity. The Dutch insurer Aegon, meanwhile, expects investee companies to assess and manage how their activities can drive deforestation or biodiversity loss.

Updated: August 19, 2023, 5:00 AM