October 2020

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Climate risk accounting is coming to bank balance sheets. The process has been slow but steady, with large banks already adopting methodologies for recognizing the cost of climate change in discrete areas like lending and investment banking. There are also regulatory calls for modeling the impact of large-scale or sub-systemic shocks to asset prices.

As an upcoming step, bank risk capital ratios will begin to incorporate the cost of climate change. This will impact the RWA of assets for Basel ratios and the cost of collateralized products and OTC derivatives. Competing methodologies for these types of calculations are already in the market. As thinking about climate change risk matures, investors and intermediaries should expect changes to the pricing and terms of their financial transactions.

This report assists market practitioners in thinking through the practical implications to their own firms of climate risk accounting on bank balance sheets. The report includes a review of leading methodologies for analysis and looks at how, exactly, they will attach a cost to assets. The report concludes with an analysis of how market participants should think to position themselves now in response to new changes.

This report should be read by any market participant in businesses that use bank balance sheets, including Treasury, OTC and listed derivatives, securities finance, repo and clearing. The report should also be useful to service providers and regulators to these operating activities.

Table of Contents

  • Executive Summary
  • Climate Risk as Financial Stability Risk
  • Regulatory Responses and Stress Tests
  • Proposed Methodologies
  • Considerations for Balance Sheet Businesses
  • About the Author
  • About Finadium LLC

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