1、CLIMATE CHANGE Three imperatives for financial services First, climate risk is not yet being factored into capital pricing and allocation decisions. Partly this is because of the difficulty in doing so. Assessing the impact of either physical climate change or of rapid transition is complex, and not
2、 well captured by models that are built on historical data. But the science is developing fast, built around forward-looking scenario analysis. We have applied this to model one type of transition risk the impact of a carbon tax on two carbon- heavy industries: power and oil this represents arguably
3、 the single biggest growth opportunity for the industry. So what can be done to move faster? Many competing approaches are emerging and the data and disclosures are all still weak. There are many analytical gaps and there is no overarching framework. These things will all improve over time. But the
4、time has come for the industry to move firmly into action. The financial services industry plays a crucial role in the economy by allocating and charging for capital. We can only transition towards a climate-sustainable economy quickly if financial services plays this role well. Today, this mechanis
5、m is not working well enough, for two simple but crucial reasons. WE SEE THREE IMPERATIVES First, the industry needs to tackle the complex work needed to understand its risks. It then needs to act on this. Rating agencies, banks, asset managers and insurance companies need to significantly invest in
6、 improving data capture and granular modelling of physical and transition risks, and reflecting this in credit ratings and security valuations. Better corporate disclosure is vital and financial services firms can play an important role in pushing for this. But measurement alone is not sufficient. I
7、n parallel processes need to be changed to allow the decision makers to incorporate this risk and include it in discussions with customers. The underwriters and risk managers responsible for pricing and underwriting decisions need to adapt quickly, as do the incentives and policies that steer the bu
8、siness. Growing public concern about the environment is feeding a boom in demand for greener investments. It will also drive an accelerating shift towards a greener economy, and the products and services created to enable this will have lasting value. Yet sustainable finance products, such as sustai
9、nable investing funds and green bonds, while growing fast, remain small. There is an urgent need to extend the breadth and depth of the sustainable finance markets, and to create the data and analytical structures that will underpin this. The winners will be those able to move fast and work across o
10、rganisational boundaries to shape the new market, and help the economy in an almost unprecedented transformation. While physical climate risk management may be about downside protection, climate transition risk should be seen as a huge opportunity. Our first two imperatives rely on the commercial fo
11、rces of risk and return to drive action within large financial services institutions. There is a danger that this process of reacting to the underlying economic data and projections through upward percolation alone will be too slow and too weak. Financial services needs to put in place a pro-active
12、stance, led from the very top. Priorities should include investment to build internal capabilities, top-down parameters for capital allocation towards green activities, the creation of meaningful and measurable ways to engage with companies in the brown-to-green transition. IMPERATIVE 1 Act on your
13、risks IMPERATIVE 2 Seize the opportunities IMPERATIVE 3 Steer Top-down 3 THIS LEAVES OPEN THE QUESTION OF POLICY IN FINANCIAL SERVICES Beyond carbon taxing, there are a number of levers under debate. Regulators have started to experiment with climate-based stress testing and embedding this in superv
14、isory processes. This, on the evidence so far, seems an effective way to ensure that the risks are better understood promoting capability-building. Mandating more granular disclosures from financial institutions would be another positive step, as would establishing a common framework for measuring t
15、he carbon intensity of the balance sheet. There are more directive measures being considered, such as regulating banks to put differential capital weights against different corporates according to sustainability considerations. Such steps that affect core prudential capital requirements could have u
16、nintended effects. At a minimum they require significant further assessment. The industry should accelerate progress to get as far ahead of the potential intervention as possible. While much of the financial services industry was found to require major government intervention after the financial cri
17、sis, the shift toward a green economy is an opportunity for the industry to take a leading role. FIGURE 1 Three imperatives for financial services firms on climate change SOURCE: Oliver Wyman analysis What do you need to do to safeguard against the risks? Where are the opportunities to make money an
18、d who will win? What more can or should be done to take a proactive, positive stance? BOARD OF DIRECTORS INVESTORS SUPERVISORS REGULATORS BOARD OF DIRECTORS INVESTORS SOCIETY ACCOUNTABILITY TOWARDS ACT ON YOUR RISKS SEIZE THE OPPORTUNITIES STEER TOP-DOWN 4 ACT ON YOUR RISKS How should climate risk b
19、e reflected in decision making? During the past year, in our work with financial institutions on climate change, we have observed a step-change. Momentum has picked up, with much of our focus going into calculating scenario-based losses on balance sheets. While stress testing techniques are now well
20、 established across the industry, the application of these to understand the economic risks from climate change is particularly challenging, given the lack of historical data and the complexity of the risk drivers. What is already clear from our work in this space, is that the possible losses are si
21、gnificant and that these risks are only just beginning to be incorporated systematically into asset allocation and origination processes. The economic risks relating to physical changes in the environment are increasingly apparent, as events such as forest fires, storms, and floods occur with increa
22、sing frequency. But the more important economic impacts in the near term may now relate to steps taken to accelerate the transition to a lower carbon economy. Earlier this year the World Economic Forum, with support from Marsh it is rapidly moving into the retail sector as the shift in customer sent
23、iment on environmental issues comes to be reflected in saving and investment choices. The pace of this shift is remarkable. There are few other fields of commerce where public concern over the environment and sustainability has translated into such clear changes in consumption patterns. Consumption
24、choices across industries tend to be driven by other factors, such as core functionality, brand, and price. Research by Lippincott, our brand consultancy, found that while many customers care deeply about the environment, only nine percent of customers are willing to pay a premium for products that
25、offer better environmental sustainability. In financial services, however, it is not clear that customers need to make such an economic sacrifice. Sustainable products, such as green bonds, tend to offer similar rates of return to the wider market. Indeed, some studies have suggested that ESG equity
26、 funds have acheived higher returns. Banks would be well-advised to follow the asset management industry by creating “carbon neutral” or green savings and deposit products, with associated brand identities. FINANCING As the demand for sustainable saving and investment products grows, so does the nee
27、d for a broader range of suitable financing opportunities to put this money to work. In principle these should be plentiful as the financing required to drive to a lower carbon opportunity could be huge a report by the New Climate Economy has estimated a financing need of $6 trillion a year. Yet the
28、 sustainable finance markets remain small. FIGURE 8 Only some customers are willing to pay more for sustainable products SOURCE: Lippincott Brand Aperture survey, June 2019, U.S. THE HIGHEST QUALITY AVAILABLE WHENEVER AND WHEREVER I NEED IT PROTECTIVE OF MY PRIVACY EFFORTLESS TO USE ENVIRONMENTALLY
29、SUSTAINABLE PERSONALIZED TO YOU SELECT THE BENEFIT THAT YOU WOULD BE MOST WILLING TO SPEND 10% MORE ON FOR. n=5,002.a large, infrequent purchase (%) n=5,005.an everyday purchase (%) 8811121349 4415141098 13 Consider the green bond markets. They have been a major success story, achieving issuance of
30、$250 billion in 2019, from a standing start 10 years ago. As the market has grown the set of issuers has expanded beyond sovereigns and development banks into the private sector. Yet the market remains small, representing less than five percent of global issuance, and skewed towards higher grade cre
31、dits. Critically, the issuer base is particularly small in those areas where the largest change is required, such as in emerging markets and in sectors that have the most to do to transition to a lower carbon model. Take the automotive sector, for example: the entire ecosystem of manufacturers and s
32、ervice providers is set to change profoundly with the rise of electric cars and car-sharing. This will present tremendous opportunities for financial firms as new companies emerge (there were 138 start-ups in 2018 in this space, collectively worth $46 billion) and existing ones invest and divest to
33、adapt. This could have a major impact helping reduce carbon emission since road transport accounts for around 20% of emissions. Despite this, there has been almost no specialist green financing in the auto sector. The market is already working hard to tackle this, creating new product structures and
34、 adapting existing ones to better link the demand for sustainable and transition- linked investments to the financing and risk- management needs of the companies driving change. For instance: Transition bonds Impact-linked structured notes ESG-linked interest rate swaps Stripped green bonds Carbon p
35、ermit trading and origination Insurance premia-linked financing The growth of the existing green market has been supported by standards and taxonomies defining what is considered as eligible to be labelled as “green”, typically based on strict rules for how the funds will be used. Transition finance
36、 cannot fit neatly into this framework, so a more nuanced approach must be developed. This will mean looking beyond “use of funds” and moving towards a broader assessment of how well the issuer is aligned with the Paris Agreement. By definition, this kind of transition financing will involve providi
37、ng capital to companies who are currently involved in brown activities an idea that a number of active stakeholders are vocally against. Certainly, there is a danger of heightened “greenwash” and reputational risk for involved parties. Yet unless these issues are addressed and worked through the mar
38、ket will surely struggle to meet its potential. FIGURE 9 Financing the vast bulk of borrowers that do not meet pure green financing criteria SOURCE: Oliver Wyman analysis Credit based assessment TRADITIONAL FINANCING Outcome linked economics Target outcomes based assessment TRANSITION FINANCING Dire
39、ction of travel Activity based assessment Values based assessment GREEN-LABELLED FINANCING Access to wider funding pools Disciplines and incentives to help drive change Wider universe of issuers and deeper market for investors More impact in driving transition 14 THOSE FIRMS ABLE TO LEAD THE CHARGE
40、IN SHAPING THE MARKET WITH NEW PRODUCTS AND STRUCTURES WILL BE WELL PLACED TO CAPTURE THE GROWING FEE POOL ANALYTICS AND RISK TRANSFER The development of the analytics and data that will be required to support this growing market is an area of intense activity today. A raft of new firms have emerged
41、 offering a wide range of services from AI-driven geospatial mapping databases to human-driven subjective research ratings while the major data providers, index providers and exchanges have been developing their own offerings. There is a battle to establish the reference data sets, but also to own t
42、he analytical processes of company assessment and portfolio selection. Some financial institutions will prefer to rely on third-party indeces and external ratings, but a growing number are seeking to develop their own analytical approaches and embed these into the asset selection and portfolio manag
43、ement processes processes they consider to be core competencies? As this market develops, opportunities will arise for new approaches to risk transfer and hedging. For instance, as extreme weather events have become more common, so climate risks have become larger and more complex to price. In respo
44、nse, innovative insurers both established and niche specialist players have begun to offer parametric insurance policies. By offering fixed payouts against climatic trigger events, these players have captured what was once considered “uninsurable” business while helping corporations and individuals
45、increase their climate resilience. Similarly, as carbon intensity becomes an increasingly important consideration, so firms may look for hedging and risk transfer instruments linked to the carbon price. FIGURE 10 There is a battle to control the data and analytics space SOURCE: Oliver Wyman analysis
46、 DataValue Chain Players AnalyticsAsset AllocationAdvisory Corporate Advisory Investment Consultants Family offices, OCIO, SWF Investor Solutions Exchanges & Indexes Data Companies Active funds Analytics & Research Specialists Passive funds 16 STEER TOP-DOWN What should be done to take a proactive s
47、tance? We have argued that financial institutions face compelling reasons to act in their own commercial interest. Yet, there is a danger that if such action is limited to following the commercial incentives in place today, society more broadly will not move with enough urgency to avert the economic
48、 and social fallout of unchecked climate change. This may be the biggest risk financial institutions face over the longer term. Framed this way, leaders have a wider responsibility to society to take a stronger stance, using their position to proactively help drive the transition to a lower carbon e
49、conomy. In doing so, financial institutions can draw inspiration from ambitious and creative approaches taken by companies such as Unilever, IKEA, or Danone. Many executives say they want to take action, but argue that they are limited in what they can do either because customers wont bear the costs or because investors want to optimize for short- term returns. Exploring the realities of those constraints can be a useful lens to apply. The question for management is not what will their stakeholders require them to do, but what will their stakeholde
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