How can financial firms add value to the fast-moving climate risk debate?

Climate risk was dominating ESG before Covid-19 struck. But although the pandemic has forced social issues up the agenda, demand for leadership on climate issues has not gone away. After all, the fall-out from Covid-19 is a harbinger of what might happen if we have a climate shock. Firms seeking to be credible thought leaders must now use their content to address the next frontier of climate challenges.

“We know our clients want to see more of our thinking on climate change, but can we really create thought leadership if we don’t have all the answers?”

Does that sound familiar? It’s a question that executives and communications teams across the financial services industry are wrestling with. And the answer is yes. But you need to ask yourself some important questions first.

1. Do we know where the industry curve is on climate?

Though, sadly, the urgency of the climate crisis hasn’t yet sunk in for some of the world’s major political leaders, it has at least been accepted by much of the financial sector and some of its key regulators.

Ever since the Task Force on Climate-related Financial Disclosures (TCFD) published its recommendations for identifying, measuring and disclosing risks in 2017, there’s been a huge push to work out how to implement them. The Network of Central Banks and Supervisors for Greening the Financial System (NGFS) was established at the end of 2017, for instance, to help accelerate the role of financial services in transitioning to a greener economy. It now has 69 members globally.

The Bank of England, meanwhile, plans to include climate risk within mandatory stress-testing for UK banks and insurers, with former governor Mark Carney saying that climate change “will affect the value of virtually every financial asset”. Meanwhile, the UN’s Principles for Responsible Investment Initiative now has close to 3,000 signatories, as many investors recognise that addressing climate change and ESG issues is part of their fiduciary duty to stakeholders.

The upshot is that industry executives’ concerns are no longer about whether they ought to be assessing climate risks in their lending portfolios or integrating ESG principles into their investment analysis. That’s now a given.

The focus is now on refining climate risk models, improving forward-looking analysis, and enhancing mitigation strategies. At the cutting edge of industry research, international collaborations are under way to create better estimates of climate value-at-risk, a forward-looking, return-based valuation assessment of risks and opportunities within portfolios that is based on different climate scenarios and pathways to a low-carbon transition.

Given this growing sophistication in how the industry is approaching climate risk, and the increasing resources behind it, firms need to be careful about how they position their thought leadership. A new campaign that earnestly promotes “the merits of adopting ESG investing”, or advocates the importance of “screening the portfolio for climate risk”, would be like ‘teaching grandma to suck eggs’. It’s old news.

Fresh insights and original thinking on climate are difficult to achieve, but still possible. Financial firms will add value if they truly understand the challenges their clients face, and how their specific industry perspective could help.

2. How can we elevate the industry dialogue on climate?

When it comes to thought leadership, the speed at which financial services’ climate thinking is evolving is both a challenge and an opportunity. Questions are being raised and investigated to which nobody has a definitive answer.

At the same time, most firms can add value to some part of the debate by bringing their own expertise and viewpoints to the table. When planning your campaign, road-test your thinking:

• Ask today’s big questions. Try to address your clients’ burning questions. How can they measure financial risks in their lending and investment portfolios resulting from physical risks (climate-related events like floods and storms) and transition risks (the shift to a low-carbon economy, including policy or regulatory shocks)? What are the implications of Covid-19 for transition risks? What climate change scenarios should they be using – and what assumptions do they rely on? How can they get a better view of companies’ climate exposure and resilience? How can they align portfolios to climate goals when ESG data still resembles the Wild West?
• Challenge group-think. Your firm might not have all the answers on climate issues, but its thought leadership can bring different voices together to highlight industry concerns. For instance, a lot of existing work to measure climate value-at-risk is underpinned by the same set of models and scenarios, while ESG ratings providers are making assumptions about what constitutes good or bad performance – often without being transparent. There needs to be an open debate involving all industry stakeholders about the best models to use, the right assumptions to take into account, the best ways to define risks, and the best way to score companies’ performance.
• Highlight your firm’s unique perspective. Make sure your content producers are bang up to date with the latest climate-focused research and innovation in the firm. Most financial services firms will be tackling climate challenges from their own unique viewpoint, with different combinations of expertise. That could be asset managers bringing together fund managers, chief economists and environmental policy experts to combine ESG with financial analysis; insurers working with meteorologists and historical data to model physical risks; or banks teaming up with academics and regulators to assess systemic risks. These initiatives and programmes will throw up compelling insights that could form the basis of a thought leadership campaign – marketers must capitalise by making sure they’re close to the action.

Climate change has the power to trigger the next systemic financial crisis, and it is compelling financial services to rethink its fabric.

It may be a daunting topic to address, but every part of finance has a part to play as the industry is reshaped over the coming decade. One thing is certain: your clients want to hear from you.