11 July 2017 – How can the financial industry aid climate-related financial disclosures, enhance environmental risk analysis, and make better use of publicly available environmental data to analyse financial risk and inform decision-making on future investments, asks Dr Nina Seega, CISL Research Consultant and co-author of the G20 Green Finance Study Group’s background paper on Enhancing Environmental Risk Assessment in Financial Decision Making.
The G20’s Green Finance Study Group has just released its latest report, "Enhancing Environmental Risk Assessment in Financial Decision-making" in the wake of its leaders’ summit in Germany. The University of Cambridge Institute for Sustainability Leadership (CISL) works as a knowledge partner to this group, supporting them in their effort to mainstream environmental risks across the G20, which together represents 85 per cent of global GDP, 75 per cent of world trade and approximately two-thirds of the global population.
Over the last two years, finance leaders have increasingly woken up to the reality that climate change, natural resource scarcity and other sustainability measures can impact economic growth and their own portfolios. For example, the Chinese bank ICBC and German financial services company Allianz have both analysed the impact of potential environmental regulations on the credit risk in their portfolios and to enable better stock picking. And just last month, over 100 large companies across a variety of industries publicly supported the recommendations made by a special task force set up around climate-related financial disclosures.
So what are the ways the financial industry can further accelerate and broaden this effort? How can it enhance environmental risk analysis (ERA) in its decision-making? And how can it make better use of publicly available environmental data (PAED) to analyse financial risk and inform decision-making on future investments?
As part of our contribution the report, we took stock of developments across both G20 member countries and internationally. Here are five key takeaways for mainstreaming green finance even further:
1. Focus on the business case of going green.
Financial institutions will always be fundamentally concerned about the financial risks to their investments. If they can understand and identify how environmental factors contribute materially to these risks, they will have a stronger position to embed them in their work. For instance, Barclays Equity Research team have argued that German electric utilities company RWE and European gas and electricity supplier E.ON ‘s equity value has suffered an 85 per cent deterioration since 2008 due to climate risk.
2. Deal with the ‘tragedy of the horizon’.
Asset owners, supported by policymakers, can combat short-termism in investment decision-making – referred to as the ‘tragedy of the horizon’ – by demanding more long-term oriented research and implementing appropriate performance measures for the investment management industry, such as investment mandates that demand responsible, long-term value creation.
3. Back it up with data.
Environmental and climate-related risks have financial impacts. Data should therefore be reported to a similar standard as financial data. Otherwise, financial firms and other market participants cannot manage their environmental risk exposures or easily finance green investment opportunities.
Companies should report this data in a standardised way at the end of their financial year. Meanwhile regulators can help plug remaining data gaps, as is beginning to happen in California, France and the EU.
4. Create better assessment tools.
Financial institutions must improve their analytical tools to make better use of a broad range of data. This includes addressing different sources of environmental risk within various risk types (eg market, credit, business), as well as different types of financial exposure and key country- or sector-specific factors. Considerable differences exist in between financial institutions, notably between different geographies and sectors as well as sizes of financial firms. This lack of capacity is already limiting financial institutions, their clients and the financial system as a whole to perform environmental risks analysis meaningfully.
However, international co-operation in green finance has been evident across the G20 and between G20 countries. This has taken place both through intergovernmental platforms and across diverse public-private initiatives, such as the OECD Centre on Green Finance and Investment. To further develop and enhance these environmental risk management tools, more national and international collaboration between academic organisations and practitioners will be key. For instance, the insurance industry group ClimateWise has commissioned research from universities and the private sector on how to better manage the so called ‘transition risk’ in moving to a zero carbon, climate-resilient economy.
5. Capture your results and share your success stories.
Continued learning and uptake of these tools will only happen if the trailblazers behind this effort are seen to be thriving as a result. Examples are already abundant – from national sustainable and green finance roadmaps, capacity building and knowledge sharing by financial institutions, and the development of local green bond markets and cross-border green bond flows.
These successes will also become the foundation for further much needed research. Among others, this includes: integration of a green investment opportunities framework; more integrated national approaches to green finance; development of local currency green bond markets in emerging market economies; the role of public finance and development banks in supporting green investment; and the application of financial technology (‘FinTech’) in green finance.
From climate change and migration to international collaboration and free trade, these issues can only be addressed if the right financial backing is in place to support them. The G20 knows this, as do business leaders. It’s now time to unleash this potential.
To download the full range of Green Study Finance Group input papers, visit http://unepinquiry.org/g20greenfinancerepositoryeng/.
This article was first published in the Responsible Investor (£) on 10 July 2017.
