Module 4: climate Risk Measurement & Management

Module 4: climate Risk Measurement & Management What is the TCFD for? To help investors make more informed decisions on the impact of climate related risks and opportunities within a specific firm. What are the categories of financial impact resulting from climate risk? Revenues as demand changes, expenditures due to disruption in supply chains, assets and liabilities as the valuation of assets changes, and capital and financing as firms raised debt for research and development. What is chronic risk? Long term changes What are the PRA expectations? 1. Governance - risk appetite statement, governance routines, board interaction, strategy changes, designate responsibilities. 2. Risk Management - identify, measure, monitor, manage and report exposures to risks. Then evidence of risk mitigation in place to resolve. 3. Scenario analysis 4. Disclosure - TCFD Challenges of measuring impact on credit risk using models Focus on likely scenarios not tail risk. Before scenario analysis, people can use case studies. How does climate risk cause credit risk? Transition to low carbon economy is expensive, so costs held by households and firms effect their cash flows and wealth which determines the credit rating. There is increased risk that borrowers will fail to repay interest and principe of a loan. Principle risk decreases productivity which decreases revenues which decreases cash flows which increases credit risk. Transition risk increases expenditure which decreases cash flows which increases credit risk. Also the risk of collateral revaluation. What are the challenges in estimating credit risk? Limitations of historical data Expanding the time horizon Lack of climate information Data granularity Relevant metrics Difficult to translate results into action steps. How to create credit risk models? Define the scenario of scope, location and types of risk etc. Estimate the economic impact through direct, indirect and macroeconomic effects Translate impacts into measures such as feeding credit ratings and probability of default loss What are the types of stranded assets? Tier 1 are those impacted direct,y from regulation like fossil fuels. Tier 2 are energy intensive assets I,e, mining What causes stranded assets? To meet the Paris agreement 70 percent of fossil fuels are unburnable which will cost the industry around 30 trillion. This will cause the repricjng of assets. The effects will be worse in a too late too sudden scenario.