Prudential Authority publishes highly anticipated draft guidance notes for banks and insurers on climate-related risks and disclosures

Mirroring different main monetary sector regulators throughout the globe, South Africa’s Prudential Authority (PA) has signaled to banks and insurers that it’s time for them to think about and combine climate-related dangers into their enterprise practices, technique, and administration and disclose climate-related dangers.

The PA has launched 4 proposed steering notes for remark by banks (in addition to branches of overseas establishments, controlling firms, eligible establishments, and auditors of banks or controlling firms) and insurers on climate-related disclosures and danger practices. This steering incorporates important suggestions on governance, technique, danger administration, metrics and targets regarding climate-related danger.

The steering notes should be understood within the context of rising regulatory initiatives globally to combine Environmental, Social and Governance (ESG) and sustainable finance into mainstream monetary programs. Traditionally, local weather associated and different ESG dangers weren’t adequately factored into capital allocation selections or pricing. This has resulted in a monetary system that fails to understand and price environmental and social externalities. Sustainable finance efforts by numerous monetary market members on a voluntary foundation, and now by regulators, purpose to combine these externalities, that are seen as important to resilience and monetary stability.

The steering notes display the altering perceptions of climate-related dangers. These dangers are seen as having an influence on banking establishments, no matter their dimension, complexity, or enterprise mannequin. Importantly, banks and insurers are anticipated to deal with local weather danger as a monetary danger reasonably than merely a reputational danger occasion. This has implications for the best way that climate-related dangers are built-in into danger administration frameworks and enterprise fashions.

In response to the PA, the insurance coverage trade performs a important function within the administration of climate-related dangers in its capability as an assessor, supervisor, and service of danger, and as an investor and steward of monetary assets. It is usually uniquely certified to know the pricing of insurance coverage dangers. Local weather-related dangers have the potential to influence the solvency place of an insurer, in addition to its capacity to lift capital, and so they might have an effect on the valuation of belongings and liabilities in each life and non-life insurers from the attitude of each bodily and transition dangers.

The PA says an important perform of monetary markets is to cost danger to assist knowledgeable, environment friendly capital-allocation selections. Disclosures can improve how climate-related dangers are assessed, priced, and managed nationally and internationally. The steering notes undertake the suggestions of the Job Power on Local weather-related Monetary Disclosures (TCFD) and the Worldwide Sustainability Requirements Board (ISSB). The ISSB not too long ago printed inaugural requirements that purpose to advertise consistency and comparability in sustainability reporting and disclosure. Local weather-related disclosure ought to be produced concurrently with banks’ and insurers’ annual reviews, or extra continuously if materials data is offered.

The steering notes set out the important thing function gamers and their respective tasks to handle and combine climate-related dangers and disclosures. Boards of administrators and senior administration ought to guarantee applicable allocation of oversight and administration tasks for managing climate-related dangers. Sure administration points could also be delegated, however the board has the duty to observe the train of the delegated capabilities. The board and senior administration ought to develop complete insurance policies and processes that can help in figuring out climate-related danger drivers and assessing the potential impacts thereof. The board ought to disclose its practices and processes in sustaining oversight over climate-related dangers and their influence on the monetary establishment, in addition to the function of senior administration in assessing and managing climate-related dangers and alternatives. The board ought to stay cognisant of potential direct authorized motion in opposition to the establishment for failing to handle climate-related dangers.

Additionally noteworthy is the function envisaged for the compliance perform of banks and insurers in guaranteeing that climate-related dangers are recognized and accounted for in compliance danger administration frameworks. The PA says from the attitude of the compliance perform, climate-related dangers relate to authorized danger (legal responsibility danger), i.e. the chance of climate-related claims in addition to direct actions in opposition to establishments for failing to handle local weather dangers, and authorized change danger (disclosure danger associated to the failure to reveal climate-related danger exposures).

There are lots of different necessary points within the steering notes, together with:

the necessity for applicable resourcing and capability to understand the specialist nature of climate-related danger from the Management Features;

the a number of references to applicable worldwide frameworks;

the necessity for metrics and targets which are sufficiently detailed to handle climate-related dangers and alternatives, and disclosure of efficiency in opposition to these targets;

reference to the South African inexperienced finance taxonomy;

the necessity to undertake transition planning and compile transition plans in proportion to their dimension, enterprise mannequin and complexity; and

presently the disclosures are usually not anticipated to be topic to unbiased exterior assurance however in future exterior assurance is anticipated.

The draft steering notes concentrate on climate-related dangers. Nonetheless, local weather change and the simply transition to a low carbon economic system additionally convey alternatives. The PA’s said method to climate-related dangers is one in all proactivity. It particularly encourages monetary establishments to not await regulation or to be compliance pushed. Developments and enhancements in method are usually not thought of ample justifications for delaying implementation in terms of local weather danger administration. Local weather-related disclosures are anticipated to turn out to be necessary over time.

The publication of the ultimate variations of the steering notes is inevitable and imminent. It’s subsequently important that monetary establishments grasp the importance of those steering notes and the implications for his or her companies. Our multi-disciplinary ESG crew advises purchasers within the monetary sector on the combination of ESG and sustainable finance initiatives, together with climate-related dangers. The deadline for feedback on the Proposed Steerage Notes is 13 September 2023.