What is the Role of Climate Scenarios in the Investment Process?
Rosanne Lam, Strategy Manager Climate & ESG Solutions, Ortec Finance & Richard Boyce, Managing Director, Ortec Finance
In this article, Richard Boyce, Managing Director, Canada, Ortec Finance, and Rosanne Lam, Strategy Manager, Climate & ESG Solutions, Ortec Finance, share the role of climate scenarios in the investment process and how it can reduce the financial risks associated with long-term climate change.
Ortec Finance will also be joining the World Energy Transition Summit on 20 September in New York City, as Summit Partner.
Uncertainty is intrinsic to climate change. While the realities of the phenomenon are becoming increasingly apparent with each passing season, it is not clear just how fast or in what ways that change is occurring. In the midst of such uncertainty, there is growing pressure on the global financial sector, from a regulatory, fiduciary and societal perspective, to understand its implications. This will in turn allow financial institutions to manage their exposure to these long-term impacts by integrating climate change into the investment process.
Financial institutions are turning to climate scenario analysis to identify climate change-related risks and opportunities to manage their exposure.
- Richard Boyce, Managing Director, Ortec Finance & Rosanne Lam, Strategy Manager Climate & ESG Solutions, Ortec Finance
Climate scenario analysis considers a range of possible future climate pathways as well as associated economic and market developments. This allows financial institutions to focus on identifying and evaluating climate-related financial risks that may arise from a changing environment. It facilitates a structured exploration of how certain climate-related financial risks could manifest for financial institutions – including pension funds, insurance companies, sovereign wealth funds, asset managers and banks – and their investment portfolios in the future.
Financial institutions considering utilising climate scenario analysis have the option of:
drawing on publicly available scenarios developed by the Network of Central Banks and Supervisors for Greening the Financial System (NGFS);
purchasing alternative scenario sets that are developed using different modelling methodologies and assumptions; and
developing their own bespoke scenarios to reflect their own specific views and assumptions.
The diversity of scenarios is creating confusion in the market as to how to select the most appropriate scenarios to achieve their objectives.
The most widely utilized of these are the publicly available scenarios. The free accessibility of this category has meant that they have been successful in creating awareness of the need to manage climate-related risks and opportunities and also of the effectiveness of this tool in supporting long-term investment decision-making. However, the one-size-fits-all nature of publicly available scenarios poses many pitfalls, not least of which include herd mentality and a lack of diversity of opinion. If left unchallenged, this could become a driver of systematic climate risk.
This could be avoided by relying on a more diverse range of climate scenarios that are more representative of real-world dynamics and assumptions. Financial institutions could look to bespoke scenarios which do offer greater flexibility and granularity in incorporating specific views and detailed assumptions that are representative of an institution’s operating context. These models are resource-intensive, however, and can be complex and time-consuming to develop.
Alternative scenarios, against this backdrop, offer the most feasible option for financial institutions, particularly those who are resource-constrained but want to seriously address climate-related risks and opportunities within their investment process. Offered by specialist firms in a third-party capacity, alternative scenarios are off-the-shelf solutions that provide a more comprehensive range of parameters that can be used to supplement the publicly available scenario sets. Ortec Finance is one such provider of alternative climate scenarios and, in fact, pioneered this application of climate scenario modelling more than five years ago.
Increased availability of a wide range of climate scenarios, as long as they are plausible, can only be a positive influence in steering financial institutions away from group think and reducing the long-term financial risks of climate change.
To learn more about climate scenarios, download Ortec Finance’s latest whitepaper:
About Ortec Finance
Ortec Finance is the leading provider of technology and solutions for risk and return management. It is their purpose to enable people to manage the complexity of investment decisions. Ortec Finance do this through delivering leading technologies and solutions for investment decision-making to financial institutions around the world. Their strength lies in an effective combination of advanced models, innovative technology and in-depth market knowledge. This combination of skills and expertise supports investment professionals in achieving a better risk-return ratio and thus better results. Headquartered in Rotterdam, The Netherlands, Ortec Finance also have offices in Amsterdam, London, Toronto, Zurich, New York, and Melbourne.
Read more: www.ortecfinance.com/climate
About the Author
As Strategy Manager within Ortec Finance’s Climate & ESG Solutions Team, Rosanne is responsible for staying updated with the latest climate-related regulatory, market and scientific developments worldwide. She works alongside the team to ensure that these developments are integrated into its investment decision-making technology and solutions, with a specific focus on climate scenario analysis and portfolio alignment. Rosanne joined Ortec Finance in 2019 and has played a key role in the creation of Ortec Finance’s net-zero alignment solution to enable financial institutions in their transition to net-zero. Her interdisciplinary background spanning across sustainable business strategy, environmental economics, global public policy and natural science reflects her passion in transitioning the world to a low-carbon economy. Rosanne holds a Master of Environmental Management majoring in business from Duke University and a Bachelor of Environmental Studies majoring in marine biology and ecosystem services from Lawrence University. She is certified in Sustainable Investing and Finance (CSIF) from DVIF Academie in Germany and obtained a fellowship in Energy, Environment & Economy from Duke University’s Global Policy Program in Switzerland.