Climate Change and The Finance World – A View From Above
4th March 2020
Once governments, their central banks, and financial regulators throughout the world had settled upon strategies to tackle the global financial crisis of 2008 – typically focussed on interest rate cuts and quantitative easing – the ensuing decade has seen a sustained period of growth in developed and developing nations. Consumer demand for products, services, and technology has soared and companies have posted increasing profits.
At the same time there has been a growing awareness of the impact of climate change. News channels seemingly bring an unending coverage of natural disasters, extreme weather events, air quality issues – all with the follow-on implications of loss, to human life, to wildlife and to habitat and infrastructure….as well as the associated financial suffering and impacts.
The collective voice of ‘green’ activists has grown louder and governments have responded with an increasing focus on the green agenda. The 2015 UN Paris Agreement saw a global response with pledges to limit climate temperature increases and transition to carbon neutral by 2050. Also in 2015 the G20’s Financial Stability Board set up its Task Force on Climate Related Financial Disclosures (TCFD) with the aim of developing a set of climate related financial risk disclosures for companies to adopt. Such disclosure – highlighting the various financial risks (and opportunities) associated with climate that might affect a company’s business – would aid stakeholders, including investors, analysts and consumers, in assessing the underlying value of the business. The aim of TCFD is to encourage sustainable investments as well as an economy that is resilient to climate related uncertainties.
Taking a lead from world forums, more regional initiatives have followed. The EU Sustainable Finance Action Plan (SFAP) was published in 2018 with the objectives of the reorient of capital flows; creation of mainstream sustainability in climate related risk management; fostering transparency and long-termism – all targeted at a commitment to sustainability and low carbon transition agenda. At local level the UK Government set out its Green Finance Strategy (GFS) in 2019 with a commitment from the main UK finance regulators to work together; its central theme is to have all listed companies and large asset owners to publish climate related financial disclosures, in line with TCFD recommended standards, by 2022.
So how are companies doing? Following TCFD’s 2017 published standards with recommendations for a structured approach to disclosure, TCFD has followed-up with two status reports covering a review of 1000 company disclosures across different sectors and regions. The reviews concluded that, whilst the level of disclosure had increased, the quality was not to the recommended standards. Additional clarity is required in disclosing actual results from scenario planning, rather than making general claims around climate resilience. Delving deeper into the situation the production of compelling evidence appears to be an issue.
Financial markets react to sudden, unexpected news and events; when that news is ‘bad’ shares and funds can easily suffer massive price falls instantly. We have seen that happen with the Coronavirus – with markets suffering single day losses that rival those seen in the Great Crash of the 1920s. A facet of globalisation, from a market point of view, is that bad news travels fast and a sudden market correction in one region causes others to follow.
As yet we do not know how the Coronavirus situation will play out; if it follows the pattern of other such health scares, such as SARS and Swine Flu, there will be a relatively short-term impact followed by a recovery as containing tactics and the arrival of a vaccination mitigates the currently high risk.
However, climate change is a longer-term issue where we now see the results of over a century and more of industrialisation, driven by fossil fuels. Even now, whilst most developed countries have accepted the need to change, and initiated commitments and action plans, the largest economy of all is led by a President who denies that climate change is a ‘thing’.
Climate change is a global issue and many companies operate on a global basis; finance providers follow their clients and the largest offer finance on a global basis. Therefore, in order to protect asset values and protect market stability there is a shared requirement to identify and mitigate climate change financial risk. Such work will need to cover both the physical risks – potential losses resulting from climate related events – as well as the transitioning risks in moving to the greener economy and the reduced reliance on fossil fuels.
In recent weeks we have observed a number of public statements of commitment from leading organisations. Microsoft has announced its intention to be ‘carbon negative’ by 2030; Blackrock declared its intention to put climate change ‘at the heart of our investment strategy’; Lloyds Banking Group announced its intention to ‘reduce the carbon emissions we finance by more than 50% by 2030’.
The impact of such commitment should mean that ‘green’ projects find it easier to source finance whilst businesses reliant and wedded to a reliance on fossil fuel production may find it less easy to operate against a worsening social responsibility rating from stakeholders. There will be an increasing requirement for evidential input when articulating corporate positions and responses to climate change by way of resilience – this is clear from TCFD review outputs.
For many companies this will be a new area of risk management to embrace. TCFD’s approach is ‘comply or explain’ and there is a warning that approaches to ‘greenwashing’ will be called out. Professional advisory firms are developing timely support and reporting frameworks; however, these still need to measure responses against sets of metrics to monitor achievement and stand the test of external review and audit.
In the new world of Machine Learning and Artificial Intelligence the ability to source relevant data, and to create meaningful information, will be key in the fight to manage the risks of climate change. New data sources are coming on-stream all the time. With climate change it is essential that the widest available data and information sources are brought into consideration – land based observation alone will limit potential knowledge and intelligence.
Increasingly data derived from satellites and earth observation creates insight and information about our planet that has previously been unattainable. Such outputs can be applied in a practical and meaningful way to record and measure changes to our natural asset base – the visualization created is often a powerful way to present findings to the wider audience. This type of application method and output can provide vital understanding and evidence to organizations that are involved in climate resilience projects and initiatives.
Specialist earth observation and data science organizations are developing products and services using satellite derived material that support environmental and health initiatives connected to climate change. Services can be measuring and forecasting air quality and traffic congestion, down to street level, or the production of urban island heat maps to highlight dangerous temperature rises, right through to monitoring the degradation of soil and vegetation. Crucially such services also provide indexation capability, thereby enabling metrics and performance tracking.
It is the evolution of new technology and the option to embrace new applications that create solutions to issues and challenges. When the Finance sector talks about new ways of financing, or impact investing, a whole battery of new approaches come into play; blockchain and cryptocurrency are now being actively considered within environmental, social, and governance (ESG) related initiatives especially in emerging market economies.
Despite President Trump’s continued denial of climate change impact, the rest of the global power acknowledges the need to act. TCFD continues to attract new supporters from around the world and its recommendations and standards are actively adopted by organizations as being a ‘common currency’ for financial disclosure of climate related risk to stakeholders across industry sectors.
In order to fulfil those TCFD standards there is a need for greater clarity on evidence-based data and information to support disclosure. To get a full understanding on what is happening to our planet then we must also learn to look down from above – it will provide a compelling and valuable view point.