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Financial perils come with environmental hazards

Nature's instability poses a financial risk that investors can no longer ignore. Asset holders, monetary authorities, and global bodies like the International Monetary Fund now face the responsibility of addressing this threat.

Financial peril is inherently linked to environmental hazards
Financial peril is inherently linked to environmental hazards

Financial perils come with environmental hazards

In a significant shift, long-term asset owners such as pension funds and sovereign wealth managers are actively integrating nature-related financial risks into their investment processes. This move comes in response to the inextricable link between global financial stability and environmental stability.

One of the key initiatives is the treatment of nature loss as a core financial risk. The UK’s Pensions Regulator (TPR) urges pension trustees to treat climate change and nature loss as central financial risks, requiring trustees to challenge advisers and asset managers on these issues and incorporate them into governance structures.

Portfolio-wide nature risk assessment is another strategy being employed. Large funds like the Norwegian Public Pension Fund Global assess nearly all (up to 96%) of their portfolios for nature-related risks. Similarly, Finland’s state pension fund is exploring methods to quantify how nature-related risks affect long-term pension liabilities.

The use of advanced data and monitoring tools is also becoming commonplace. Singapore’s Temasek Holdings leverages satellite monitoring and biodiversity data to evaluate natural capital risks and opportunities, signalling a move towards data-driven risk management.

Alignment with emerging disclosure frameworks is another critical aspect. Adoption of frameworks such as the Taskforce on Nature-related Financial Disclosures (TNFD) guides long-term investors in assessing the financial materiality of nature risks.

ESG integration and stewardship codes are also on the rise. Asset managers serving these owners are increasingly embedding environmental, social, and governance (ESG) policies, with more committing to stewardship codes and net-zero targets.

Scenario and resilience-based investment planning is another innovative approach, particularly in North America, where pension funds and insurers are incorporating scenario analyses on climate and environmental risks into portfolio planning.

The financial consequences of ecological instability are already being confronted, including stranded agricultural assets and declining sovereign-credit ratings in climate-vulnerable economies. Institutions such as central banks and the International Monetary Fund (IMF) have a responsibility to integrate the recognition of nature risk as financial risk into all their activities.

This shift towards viewing nature-related risks as core financial risks with direct impact on portfolio returns and liabilities is reflected in portfolio risk assessments, data-driven monitoring, disclosure alignment, and innovative financing aimed at resilience and sustainability. The financial institutions that lead will be those willing to move beyond silos, align capital with planetary boundaries, and invest not only in markets, but also in the systems that support them.

References:

[1] TPR (2021). The Pensions Regulator: Climate change and nature loss: A call to action for trustees. [online] Available at: https://www.thepensionsregulator.gov.uk/docs/climate-change-and-nature-loss-a-call-to-action-for-trustees.pdf

[2] UNEP Finance Initiative (2021). Nature-related risks and opportunities: Integrating nature into financial decision-making. [online] Available at: https://www.unepfi.org/-/media/files/resources/publications/2021/nature-related-risks-and-opportunities-integrating-nature-into-financial-decision-making/nature-related-risks-and-opportunities-integrating-nature-into-financial-decision-making.pdf

[3] McKinsey & Company (2021). Climate resilience: A new frontier for insurance. [online] Available at: https://www.mckinsey.com/industries/financial-services/our-insights/climate-resilience-a-new-frontier-for-insurance

[4] TNFD (2021). TNFD launches consultation on draft framework for disclosures on nature-related risks and opportunities. [online] Available at: https://www.tnfd.org/news/tnfd-launches-consultation-on-draft-framework-for-disclosures-on-nature-related-risks-and-opportunities

[5] PRI (2021). 2021 Active Ownership Monitoring Report. [online] Available at: https://www.unpri.org/research-and-insights/active-ownership-monitoring-report-2021/7244.article

Tags: crops, deforestation, economy, ESG, financing, floods, IMF, investment, natural disasters, natural resources, palm oil, rivers, supply chain, trade, climate, climate risk, agribusiness, agriculture, typhoon, extreme weather, global warming, heatwaves.

Topics: Carbon & Climate, Cities, Food & Agriculture, Policy & Finance, Water.

Regions: Europe, Global, Pakistan, Southeast Asia, Sri Lanka, Thailand.

  1. The shift in the investment landscape is evident as long-term asset owners acknowledge climate change and nature loss as core financial risks, requiring them to assess portfolios for nature-related risks, like the Norwegian Public Pension Fund Global.
  2. In line with this, the UK’s Pensions Regulator (TPR) urges pension trustees to treat these environmental issues as central financial risks, incorporating them into governance structures and challenging advisers on these matters.
  3. Financial institutions are increasingly aligning with disclosure frameworks, such as the Taskforce on Nature-related Financial Disclosures (TNFD), to guide long-term investors in assessing the financial materiality of nature risks.
  4. Advanced data and monitoring tools are being utilized to evaluate natural capital risks and opportunities, as demonstrated by Singapore’s Temasek Holdings, which leverages satellite monitoring and biodiversity data.
  5. Incorporating scenario analyses on climate and environmental risks into portfolio planning is another innovative approach gaining traction, particularly in North America, where pension funds and insurers are utilizing resilience-based investment planning.
  6. The financial consequences of ecological instability are already evident, with stranded agricultural assets and declining sovereign-credit ratings in climate-vulnerable economies. It is imperative for institutions like central banks and the International Monetary Fund (IMF) to integrate the recognition of nature risk as a financial risk into all their activities.

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