Regulators are definitely back in business pushing ahead on tackling Climate-change Risk Management: are you up-to-date and on track?
Introduction to the Article
- Since we published our introductory article on ‘Climate change: compliance and conduct risks’ in August 2020, there has been a significant number of important regulatory developments from UK and international regulatory authorities on climate-change risk management. There is an enormous amount of daily news and literature on various climate change initiatives and regulatory developments coming from the increasingly complex ecosystem of governments, regulators, private sector organisations, scientific organisations, industry bodies and standard setting organisations.
- Banks, asset managers, pension and insurance companies are all impacted by the new climate-change risk management requirements being implemented by HM Treasury, the PRA and FCA (and other international bodies, such as the European Commission). Many international / large organisations are well down the road to meeting new climate change disclosure standards (and some are industry leaders and standard setters) with well-resourced mature teams looking at the impacts of ESG on a firms’ strategy, developing risk management programmes, risk disclosure and reporting metrics. But for many medium and smaller sized firm’s, climate risk management is a nascent field and they may not have the necessary, resources, SME expertise, data, scenario modelling capability or the required governance to properly embed climate risk management into the DNA of the firm and “ensure that every financial decision takes climate change in account”.
- This article aims to provide a useful reminder of in-flight climate-change risk management regulatory requirements that will impact most regulated firms over the next few years. We also provide a summary of the most topical regulatory and governmental publications over the last 6 months (and a link to a more detailed chronology of climate-change risk management regulatory and governmental publications) and a guide to some of the key players in global climate-change risk management regulation and standard setting alongside some of the prominent climate-change initiatives. The breadth of the climate change agenda in the UK and internationally is complex and evolving and the required levels of green infrastructure runs into trillions of dollars each year which creates huge opportunities and risks for different players in the financial services industry. The complexity is compounded in the short term by the absence of common standards for climate risk reporting and an internationally accepted taxonomy for sustainability and green finance which makes meaningful comparisons between organisations and consistency impossible at this time.
- We hope this article will be of interest to those charged with their enhancing ESG frameworks and/or implementing the new climate-change risk management and disclosure requirements along with risk management professionals wanting to develop their ESG knowledge and for Board Directors and NEDs to help them meaningfully challenge their ESG frameworks and climate-change risk management programme.
In-flight Climate-Change Risk Management initiatives
The regulatory environment is warming-up
- Notwithstanding the continued focus on the pandemic, tackling climate change remains a top priority for government, industry and regulators, both in the UK and internationally.
- The UK is the first major economy to legislate for the economy wide transition to net zero emissions and is putting the development of a ‘green recovery’ at the centre of its effort to rebuild the economy. As co-president with Italy of COP26 in November 2021, the UK is committed to leadership in increasing climate change ambition and upholding the Paris Agreement and the ‘2030 Agenda for Sustainable Development’ as crucial frameworks for guiding the recovery from the COVID-19 pandemic.
- The UK is also is leading climate change action in the financial services industry in the UK and internationally (eg via the Network for Greening the Financial System). The recent regulatory communications and uptick in regulatory activity signal a clear focus on moving from a ‘a call to action’ to ‘actual action’. Mark Carney made clear in his 2020 ‘The Road to Glasgow’ speech that ‘ensuring that every financial decision takes climate change into account’ is one of the primary objectives for government, regulators and the private finance sector.
- You should plan for more intensive supervision and questioning by the FCA and PRA this year, particularly PRA regulated firms and the major investment firms supervised by the FCA and firms impacted by the new disclosure rules. The PRA regulated firms must have fully embedded their approaches to managing climate-related financial risks by the end of 2021. This means that by the end of 2021, your firm should be able to demonstrate that the expectations set out in SS3/19 have been implemented and embedded throughout your organisation, as fully as possible. Having an answer to how climate-change risk management is embedded across the 3 lines of defence, is likely to be a topical issue too alongside a status update on your firm’s preparations.
- Are you on track? Which department is the challenge function to the ESG department? Do not underestimate the amount of effort that is required to comply fully with these requirements – even the most advanced organisations have work to do and Eiger Regulatory Partners believe there will be shortage of ESG SME talent as the demand for the technical resources will outstrip current supply. ESG and particularly climate-change risk management cannot be the sole responsibility of the ESG department – many corporate functions have a role to play including finance, risk management, legal and human resources. Compliance also has a significant role to play because climate-change risk management will need to be embedded in various compliance control processes and policy standards. For example, client on-boarding, new product approval processes, product manufacturing governance, advisory and suitability frameworks, financial promotion approval procedures, reputational risk governance and listing rule compliance processes.
Climate-risk financial disclosure will become fully mandatory in the UK by 2025
- The Government announced in November 2020 that it intends to introduce fully mandatory climate related financial disclosure requirements, aligned with the recommendations of the Taskforce on Climate-related Financial Disclosures (TCFD), across the UK economy by 2025 (more detail below).
Implementation of new FCA Listing Rule (LR 9.8) and FCA Technical Note
- In December 2020, the FCA introduced a new Listing Rule (LR 9.8) requiring firms to disclose climate-related risks in line with the TCFD’s recommendations by 2022. This rule applies to 460 companies, with a UK premium listing, on the FCA Official List. LR 9.8 will apply for accounting periods beginning on or after 1 January 2021. The first annual financial reports including disclosures subject to the new rule will be published in spring 2022.
- The FCA has issued a Technical Note clarifying the existing disclosure obligations for a wider scope of issuers (ie those outside the Premium market) who may already be required to make disclosures on climate-related and other ESG matters under particular provisions of the LR, Disclosure Guidance and Transparency Rules, MAR and the PR, in certain circumstances.
Update on the Bank of England’s approach to the Climate Biennial Exploratory Scenario (CBES)
- In December 2020, the Bank provided updated guidance on its revised approach to the CBES, which impacts 18 of the largest UK Banks and Building Societies, Life Assurers and General Insurers. The ‘stress test’ exercise will test the resilience of the current business models of these firms and the financial system to climate-related risks and therefore the scale of adjustment that will need to be undertaken in coming decades for the system to remain resilient. This guidance provides significant detail for all other firms to follow in terms of their own climate risk management programmes (eg modelling scenarios, variables, metrics and exposure analysis).
The guidance covered:
- The timelines for the launch of CBES, details on preparatory work (eg data collection, engagement with corporate counterparties).
- Early information on the CBES approach in selected areas which includes: (i) minimum expectations for counterparty-level analysis of corporate exposures, (ii) portfolio alignment metrics, which aim to measure the alignment of a portfolio with climate targets or a specified benchmark, (iii) the reasons for excluding traded risk from the scope of the CBES, (iv) the CBES will explore litigation risk and (iv) the balance sheet cut of date of end-2020.
- An indicative variable list for CBES scenarios which provides a draft set of 90 variables which may vary in each of the three climate scenarios: (i) Early Policy Action, (ii) Late Policy Action, (iii) No Additional Policy Action.
Publication of the Joint RTS on ESG disclosure standards for financial market participants
- The Joint Committee draft Regulatory Technical Standards (RTS) on ESG disclosures have been developed by the three European Supervisory Authorities (EBA, EIOPA and ESMA) under the EU Regulation on sustainability-related disclosures in the financial services sector Regulation (SFDR), which aims to strengthen protection for end-investors and improve the disclosures that they receive from a broad range of financial market participants and financial advisers, as well as regarding financial products.
The Bank of England Climate-related financial disclosure
- The Bank published its own climate-related financial disclosure for the first time in June 2020, in line with the TCFD Disclosure requirements. The disclosure sets out the Bank’s approach to managing the risks from climate change across its entire operations.
- The Bank is setting a high standard for the firms it regulate to following by setting itself a new target to cuts its emissions from Scope 1, Scope 2 and business travel sources by 63% by 2030, compared to its 2016 baseline. What is your organisation’s emissions target?
A review of recent regulatory publications
HMT interim TCFD Taskforce ‘Report’ and ‘Roadmap- towards mandatory climate-related disclosure’
- The Report, published in November 2020 introduces fully mandatory climate-related financial disclosure requirements across the UK economy by 2025, with a significant portion of mandatory requirements in place by 2023.
- The Roadmap sets out an indicative path towards mandatory climate-related disclosures across the UK economy aligned with the recommendations of the TCFD.
- The Roadmap presents a coordinated strategy for seven categories of organisation: listed commercial companies; UK-registered companies; banks and building societies; insurance companies; asset managers; life insurers and FCA-regulated pension schemes; and occupational pension schemes
FCA PS20/17: Proposals to enhance climate-related disclosures by listed issuers and clarification of existing disclosure obligations.
- The Policy Statement summarised the feedback to the FCA consultation proposals in CP20/3 and confirm the FCA final policy position. The PS also contains the final rules and guidance as well as the final Technical Note.
The publication of the Financial Reporting Council (FRC): Climate Thematic Review 2020
- Throughout 2020, the FRC undertook a thematic review of climate-related considerations by boards, companies, auditors, professional bodies and investors. This report formed part of that review and summarised its findings.
- The Review provided detailed findings on: (i) governance, (ii) corporate reporting, (iii) audit, (iv) professional oversightand (v) investors.
- The review highlights FRC views on current market practice, outlines its expectations on firms and shows where it will focus its energies in ensuring that those within its remit are responding appropriately to this challenge. Firms should familiarise themselves with the report findings.
EU Taxonomy and Sustainability Regulations
- The EU Taxonomy is a classification system, establishing a list of environmentally sustainable economic activities. The EU Taxonomy Regulation which entered into force on 12 July 2020 and applies from 1 January 2022 is applicable to financial market participants and financial products. The Regulation establishes the framework for the EU taxonomy by setting out four overarching conditions that an economic activity has to meet in order to qualify as environmentally sustainable.
- The Taxonomy Regulation establishes six environmental objectives: (i) Climate-change mitigation, (ii) Climate-change adaptation, (iii) The sustainable use and protection of water and marine resource, (iv) The transition to a circular economy, (v) Pollution prevention and control and (vi) The protection and restoration of biodiversity and ecosystems.
- The Sustainability-Related Disclosure Regulation imposes new disclosure requirements (from 10 March 2021) on all Financial Market Participants to disclose information regarding the integration of Sustainability Risks in decision-making processes and offer Sustainability-Related information on any Financial Products offered.
IFRS Consultation Paper on Sustainability Reporting
- A Task Force, set up at the initiative of the Trustees of the IFRS Foundation in October 2019, prepared a public consultation to identify the demand from stakeholders in the area of sustainability reporting and understand what the Foundation could do in response to that demand.
- The UK TCFD Taskforce, published a statement of support for the IFRS Foundation’s proposal to establish a new standard setting body for sustainability reporting.
Additional reference materials
Eiger Regulatory Partners have produced additional reference materials which we hope will be of interest to readers. Please contact us if you would like copies of these articles.
- A chronology of climate-change risk management regulatory and governmental publications over the last 5 years. Click Climate-change Risk Management regulatory publications.
- An introduction to various UK, EU and International government, regulatory and industry organisations actively driving the global climate-change agenda and other prominent organisations and initiatives in green finance, sustainability and climate-change risk management. Click Key players in Climate-change Risk Management.
Eiger Regulatory Partners expertise in climate-change risk management and ESG
Our interest and expertise lies in the non-financial risk components of climate-risk management (and ESG matters) as opposed to the financial risk management disciplines (including credit risk, market risk, capital).
- Our aim is to become a niche advisory SME in the non-financial risk components of climate-change risk management and ESG regulation and compliance.
- An independent organisation for climate risk management, ESG and compliance professionals to discuss and debate ideas in confidence.
- Provider of Climate-change risk management and ESG SME expertise and practitioners on contract and FTE basis.
- Thought leaders in climate change risk management focusing on governance, compliance and conduct issues.
- Information and knowledge centre for our clients on regulatory developments.
Please get in touch – we want to expand our team and network
- If you are interested in joining out network of climate risk management and ESG subject matter experts please do get in by contacting us at firstname.lastname@example.org or contact James Ritchie or Malcolm Hill.
- In future articles, we aim to provide practical guidance on evolving best practices on governance (including the role of the Board and SMCR), disclosure standards, the regulation of green finance and compliance and conduct issues for those firms who have yet to fully develop their frameworks.