Banks must act now to manage the effects of climate change

By Peter Grant, President and Chief Commercial Officer of OakNorth Credit Intelligence

There will continue to be a symbiotic relationship between climate change, credit risk management and commercial lending in the future, and banks across the United States, and even around the world, are keeping a close eye on this. .

According to a survey conducted at OakNorth’s latest Climate Consortium – a group of innovative, climate-focused institutions that are driving commercial lending’s approach to climate risk and opportunity – 59% of participating banks have started creating a plan to mitigate climate risk in their commercial loan portfolio.

These banks are looking at the various risks associated with climate risk, with 74% of Consortium participants saying transition risk is a top priority, compared to 26% who prioritize physical. When considering transition risk, 50% of the Consortium are concerned about sectors with direct impact (cement, steel, coal).

In order to assess how material and manageable their exposure to climate change is, commercial banks will need to develop frameworks, collect more data, and perform quantitative and qualitative scenario analyses.

The major risks

Banks focus on two specific climate risks: transition risks and physical risks.

Transition risks result from adjustments towards a low-carbon economy. Factors influencing this adjustment include climate-related developments in policy and regulation, the emergence of disruptive technologies or business models, changing societal sentiments and preferences, or changing evidence, frameworks and legal interpretations.

Low-carbon policies and technology transitions aimed at mitigating climate change could affect credit risk in loan portfolios and lending strategies.

Physical risks consist of extreme weather events such as hurricanes, fires, floods, heat waves and other weather patterns including changes in precipitation, rising temperatures, sea level rise and desertification.

These events present risks of individual damage incidents, disruptions, and chronic changes in labor, capital, and other business factors.

It’s time to act

Banks are realizing that they need to act quickly to manage the effects of climate change, and those that don’t will fall behind. In particular, banks are looking to get a head start on pending regulations related to climate change and consumer demand.

According to Mark Levonian, former senior assistant comptroller for the economy at the Office of the Comptroller of the Currency and a member of the OakNorth advisory board, the banking industry is likely to receive formal advice related to climate change from supervisors in the next year, with formal regulations. next thereafter.

With the pressure banks are under from their boards, reviewers and investors – as well as the pace of technological disruption and changing consumer demand – banks have started to act now instead of waiting for the arrival. climate change regulations.

At its latest Climate Consortium, OakNorth was joined by Dr. Michael Lenox, Tayloe Murphy Professor of Business Administration, Senior Associate Dean and Director of Strategy at the Darden School at the University of Virginia. Dr Lenox said: “While this change may have been initially driven by regulation, market dynamics in terms of consumer demand and technological change now far outweigh any regulatory response.

He demonstrated this with an example of the original internal combustion engine automobile. When it came to market, the engine was seen as a solution to an environmental problem caused by accumulated manure from horse-drawn carriages on the street. Nearly 100 years after the advent of the internal combustion engine, the problems caused by the engine are well documented, paving the way for increased consumer demand for electric vehicles.

In 2019, electric vehicles accounted for just 2% of all new car sales in the United States. A year later, it doubled to 4%. In 2021, it doubled again to reach 8%. This year, it should – again – double to reach 16%. So it’s not too big of a leap to assume that in the next decade most car sales will be electric – especially given the push we’re seeing from state regulators in states like California where I live.

Building climate-confident teams

One of the first steps banks can take to manage the effects of climate change is to develop a loan-level understanding of the companies they lend to. Developing an understanding at the lending level starts with having the right people, processes and technologies in place in order to build what we call “Climate Confident Teams”.

Climate-conscious teams are able to work with customers and have conversations about the risks of climate change and the changes they can and should make to their business models to address them.

These teams can then use the data from these discussions with customers to help improve the decision-making process. Banks that hope to be trusted advisors to the companies they lend to must prioritize collaboration so that these companies understand their climate sensitivity and vulnerability and how this could impact their creditworthiness in the future.

Vulnerability of data centers and other critical services to extreme weather conditions

Verification of operational risks is essential. Banks should develop a clear understanding of their existing operations, the entities that perform those operations, the locations where those operations take place, any backup locations, and any cross-sector dependencies.

The banking industry needs flexible, technology-based solutions that can dynamically adapt to new data and enable the analysis and modeling of operational risks, hazards and vulnerabilities.

The biggest opportunity for commercial bankers in a generation

Climate change represents an opportunity for commercial bankers to influence positive change and be part of the solution, while generating significant growth in their loan portfolios and supporting their clients in the transition to the green economy. Armed with the right data, climate change will empower account managers and frontline teams to become trusted advisors to businesses and play a leading role in helping economies around the world meet their net commitments. zero.

About the Author:

With a 20-year career in enterprise software, Peter has led the sales of several iconic companies contributing to their explosive growth and IPOs, as well as driving the cloud revolution. He began his career at Oracle Siebel, where he helped grow revenue from $100 million to $2 billion, growing the number of employees from 350 to 8,000 in just four years. He then joined salesforce.com as managing director of the UK business and was only the 10th employee, but helped grow the company’s revenue from $50 million to $1 billion under the directed by Marc Benioff. He then returned to work with Tom Siebel, joining C3.ai, where he held a leadership position responsible for all US and APAC releases, reporting directly to Tom. Based in San Francisco, Peter is OakNorths President and Chief Commercial Officer responsible for its revenue and growth, working directly with OakNorth co-founder Rishi Khosla

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