Banks to step up climate disclosure

  • By Christine St Anne

Banks still do not recognise environmental risks confronting the sector and this has hampered their ability to stress test and prepare for climate change risks.

According to Deloitte principal Sharanjit Paddam, the sector needs to adopt a risk management framework that address these risks given their large exposure to residential mortgages.

Paddam is also the convener of the Climate Change Working Group at the Actuaries Institute of Australia and as such advises banks  and insurers on implementing the recommendations of the Taskforce on Climate-related Financial Disclosures, set up by the Financial Stability Board (FSB).

The FSB reports into the G20 which is concerned about how best to mitigate the global risks of climate change.

He points to analysis from the then Department of Climate Change – now folded into the Department of Industry, Innovation, Climate Change, Science, Research and Tertiary Education - which predicted in 2008 that $226 billion in Australian property could be exposed if sea levels rose by 1.1 meters.

Transition risk

With land values and house values rising over the last 10 years, that exposure is likely to be lot higher today.

“Banks are writing 30-year home loans and therefore need to think about the economy in the future. This future will mean a move away from fossil fuel to renewable energy,” Paddam said.

He describes this as a transition risk, a risk already highlighted by the prudential regulator.

In a speech in November, APRA board member Geoff Summerhayes said the move to a low-carbon economy is a real risk for banks invested in fossil fuels, which could result in $33 trillion in fossil fuel revenues globally by 2040.

At the same time, money is flowing into renewable energy and Paddam say banks will need to position themselves to take advantage of the investment and financing opportunities.

A perfect storm

According to the Deloitte principal, a “perfect storm” could also emerge where natural hazards coincide with the shutdown of coal plans as the economy transitions to renewables.

Lack of insurance against these hazards could spur mortgage defaults due to unemployment rises as a result of the coal plant shutdowns.

Furthermore, transition risks may also result in increases in reputation risk – changing customer or community perceptions of an organisation’s contribution to a lower-carbon economy.

The problem is whilst there is a growing understanding of climate change risk at the headline level it is yet to be fully integrated into the banks’ decision making and credit assessment process.

Banks have already faced negative press for doing business with - or not doing business with - carbon-intensive projects. “Banks need to navigate these risks and prepare their stress test models for a multitude of climate change scenarios happening simultaneously,” he said.

Financial institutions that are regulated by APRA are required to comply with APRA’s Prudential Standard CPS 220 on Risk Management.

This requires banks and insurers to identify risks that impact their business and how they will address these risks. Banks are slowly recognising this challenge and even capitalising on the opportunities it presents.

According to Paddam, ANZ is starting to disclose its climate change risks while the Commonwealth Bank has now committed to do scenario analysis which it will disclose to the market at the end of 2018.

Investor action

Institutional investors are urging the banks to rethink their approach to climate change.

Led by BlackRock, Vanguard and State Street, Paddam said these investors are raising the profile of these issues with the banks as well as voting for shareholder resolutions that call for the disclosure of climate risks.

At the recent One Planet conference on financing climate change in Paris, investors representing US$26 trillion assets under management announced that they will be targeting 100 companies with the largest green-house gas emissions to improve governance on climate change, curb emissions and strengthen climate-related financial disclosures.

The banks are also moving into the growing area of climate financing with the big four already issuing green bonds.

Macquarie Group is somewhat of leader, buying the Green Investment Bank in the UK which is dedicated to financing renewables.

“Banks are seeing this is a large opportunity for them and that they need to bring finance solutions that help with the economy’s transition to a low-carbon environment."

“For too long, lone voices in the corporate world have raised the alarm with regard to the significant market, reputational and physical risks Australian businesses will be exposed to as a result of climate change,” argued Christopher Wright, professor of organisational studies at the University of Sydney Business School and Sydney Environment Institute.

Wright believes that the last decade of partisan political debate has resulted in little tangible mitigation of greenhouse gas emissions or any consideration of the need to limit new fossil fuel developments.

It is therefore up to businesses to be proactive to the challenges.

“The financial sector now needs to model the significant physical changes that will unfold over the coming decade as the world continues on a worst-case scenario of catastrophic climate disruption,” Wright said.