The Bank of England and the PRA released a Policy Statement in April setting expectations for banks and insurers on managing climate change risks. By October 2019, firms are required to have allocated a responsible Senior Management Function and have a plan in place to meet the expectations. To discuss, debate, and exchange ideas, we hosted a roundtable with a select group of our senior bank and insurance clients and industry experts.
We discussed the key areas of supervisory expectations – governance, risk management, scenario analysis, and disclosures. Two themes resonated with most attendees and sparked an abundant level of debate on the ‘who’, ‘what’ and ‘how’. These should be front of mind for all banks and insurers regulated by the PRA.
1. Senior Manager accountabilities
Supervisory expectations in Policy Statement 11/19 were intentionally high level and non-prescriptive on the appointment of the Senior Management Function (SMF) that is responsible for identifying and managing financial risks from climate change. Banks and insurers are asking:
- What are the distinct responsibilities for this function?
- What roles are best placed for the SMF position? Are there advantages or disadvantages of appointed SMF responsibilities to CROs, CFOs, or Business Heads?
- Multiple participants asked if it is possible to have more than one SMF?
Our view: As the Senior Manager Regime has already been rolled out, the structure and key elements are well known and can help with identifying the right person. However, banks and insurers are at different levels of maturity when it comes to embedding climate change risk into organisational strategy and frameworks. Before appointing an SMF, identifying the firm’s stage of maturity is critical. Strategy and governance structure should also be considered when defining the SMF’s role and responsibilities. Although there is a gradual integration of climate-related CSR functions into business strategy, authority and responsibilities can differ across organisations.
2. Challenges in Climate Risk measurement
Firms are experiencing challenges in developing effective climate scenario analyses to support management in reaching actionable decisions. Challenges like data availability, modeling uncertainty, and lack of expertise present significant limits to anticipating the financial impact of climate change to their business accurately. Banks and insurers are asking:
- Will there be additional guidance on scenario analysis?
- In Insurance, the measurement process is complex and managed by actuarial teams. Does this approach drive the right outcome?
- Can climate change experts advise the industry on the realistic implications of different scenarios?
- Time horizons and outcomes are unknown and difficult to predict. How does a firm define a finite set of scenarios?
Our view: Great value can be derived from balancing supervisory expectations with a proactive approach to measuring climate risk. The process of developing independent scenarios will drive more thinking for a firm, rather than relying solely on running data through a standard model. We showcased this at the roundtable with discussion around Baringa’s Global Energy Transition Model and the opportunities it can open up for firms.
Overall, we are seeing momentum building among banks and insurers to answer these questions for their organisations. We advise that companies act now to understand and prepare for the uncertain impacts of climate change by developing comprehensive strategies and implementation plans to enhance their strategic resilience.