Three Reasons Organizations and Investors Should Care About Climate Risk
Climate change is not just an environmental issue; it’s a core business issue. The transition to a low-carbon, climate-resilient economy is underway, with increasing investor attention and rapid regulatory change driving a renewed interest to understand, plan for, and thrive in, a climate adjusted future.
As Prime Minister Trudeau prepares to give a keynote address to GLOBE, North America’s most influential sustainable business leadership summit in Vancouver, and convenes a first ministers meeting to starting hashing out a nationwide climate effort – here are three reasons organizations and investors should care about climate risk.
First, climate risk is pervasive, likely under-reported and almost certainly misunderstood. Firms have long been reporting on environmental risks, largely related to the threat of regulation or lawsuits related to pollution. Yet companies are only just beginning to understand the breadth and magnitude of how a changing environment may affect their business. According to one recent estimate, 93% of the total U.S. equities market is exposed to material climate-related risks.
Climate risk is broader than regulatory risks associated with carbon emissions. Increased extreme weather events continue to rock the insurance industry, which is regularly paying record weather-related claims. Physical assets and day-to-day business operations in today’s “on-demand” economy may be damaged or disrupted by more intense climate events. Reduced availability of critical inputs such as fresh water or productive land can impact supply chains and customer markets. Infrastructure in certain high-risk geographic locations could be vulnerable. Banks’ balance sheets may be overburdened with loans to particularly exposed industries. Investors may face significant losses due to stranded assets. All companies may be exposed to climate-related legal liability. The list of potential impacts from physical assets, regulatory risk and the transition to a low-carbon economy is neither short nor separate from core business interests.
Second, industry giants are sounding the alarm bells. The Canadian Chamber of Commerce recently named climate change as one of its “Top 10 Barriers to Competitiveness in 2016” for the first time, stating bluntly that “Canada is not ready for climate change”. A 2016 priority for the Chamber is to closely consult with Canadian business on necessary technological and economic responses to climate change and conceive of climate adaptation strategies.
The international investment community is also increasingly focused on climate risk. The world’s largest asset manager, BlackRock, is in the middle of a multi-year effort to integrate environmental, social and governance (ESG) factors (which include climate risk) into its decision-making processes and expects companies to have clear ESG management strategies. Additionally, Bank of England Governor Mark Carney recently appointed former New York City Mayor Michael Bloomberg to lead an influential industry-led Task Force on Climate-related Financial Disclosures (TCFD). The TCFD is comprised of global leaders from corporations such as Swiss Re, JPMorgan Chase, KPMG, HSBC, Unilever, AXA, and the Industrial and Commercial Bank of China. Over the next 10 months, the TCFD will develop voluntary, consistent climate-related financial disclosure guidelines for use by companies when providing information to lenders, insurers, investors and other stakeholders.
Third, those who manage others’ money may have a legal obligation to consider climate risks. Investment fund managers have a fiduciary duty to act in the best interests of those whose money they are managing. Traditionally, this meant maximizing short-term gain. But there is a growing understanding that a broad range of factors not easily captured in a balance sheet— such as climate risk – are relevant to sound investment decision making. To this end, last week the United Nations Environment Programme Finance Initiative, the Principles for Responsible Investment and the Generation Foundation launched a 3-year programme to help investors understand how and why climate change and sustainability considerations must be integrated into management decisions as part of their fiduciary duties.
Assessment tools are also emerging in response to investor interest, such as the Climate Change Index Series launched by S&P Down Jones Indices and the TSX last fall. These indices are designed to track and measure the performance of companies based on climate-related criteria, either by assigning lower weight to companies with high carbon emissions and fossil fuel reserves or excluding those companies all together. These tools will help support investors who are increasingly identifying and moving money away from carbon-intensive assets.
With significant international investor attention focused on climate change and Canadian governments embarking on a collective effort to develop a meaningful climate action plan for the first time in a decade, look for 2016 to be the year climate risks begin to move markets.