Banking On Granularity To Reduce Climate Blindspots

By Dharisha Mirando 18 February, 2019

Climate & water risks are financially material for banks but they have not started to map their assets. CWR's Mirando expands

Climate & water risks are locational & intrisincally linked; without granular information hotspots will be missed & all sectors will be exposed to the risks
Banks are not immune to water risks especially as they are not embedded into the investment process; fiduciary duties are being ignored, leaving savings at risk
China is currently taking the lead & has embedded environmental risks into credit lending policy; the confluence of multiple factors should speed up action by financial institutions

Water risks are financially material because without water our economies would not be able to function.

The potential for water to impact a bank’s balance sheet & performance is being overlooked

This is not a revolutionary new concept; we have been talking about it for years. But financial institutions have been dragging their feet to incorporate these risks into the investment process. Instead, water has been a CSR focus, with millions being spent every year. This has significant societal benefits but the potential for water to fundamentally impact a bank’s balance sheet and performance is being overlooked. Thus the interests of shareholders and savers are being ignored.

Focus has been on reducing carbon but that’s not enough…

…need to focus on adaptation

To be fair, the focus has been on reducing carbon and try to slow down climate change. Unfortunately, these actions have not been enough; temperatures are continuing to rise. The impacts are real, and we can already feel it; therefore, we need to focus on adaptation.

 

Recently these risks and the need for adaptation have started to get more attention:

Even traditional NGO are linking water risks & economic impacts…

…banks are not immune

Even traditional NGO’s, which would normally focus on access to clean water, are linking water risks and their economic impacts. This is encouraging, as it’s a reminder that banks are not immune; they have provided loans to organisations / projects that could be impacted by water but have not assessed these risks. More of these reports could help get the ball rolling.

However, a few key points are routinely missed but should be given more attention:

  • Location, location, location; granular mapping is essential. As water and climate change risks are locational, the only way to recognise the hotspots is by mapping the assets. As a significant proportion of GDP is generated along river basins that are vulnerable to climate and water risks, banks should add river basin risks to their risk framework. This mapping can be done today without sophisticated models; for example, in 2016 we mapped the assets of 5 coal and 5 power companies, which highlighted the level of risk exposure of their balance sheets.
  • Climate change and water are intrinsically linked because water is the primary medium through which we will feel the effects of climate change. In addition, water scarcity limits climate change solutions and climate change limits water scarcity solutions.
  • All sectors will be affected; diversification by sector is not enough. Typically, the power, agricultural and mining sectors get the most attention as they are water intensive. However, the financial performance of a textile manufacturer, a hotel chain, or a semiconductor manufacturer would also be affected if their direct operations and/or supply chain is impacted by a surplus or scarcity of water.
  • Fiduciary duties are being ignored. A prudent bank or investor should consider all material financial risks, unfortunately most are yet to fully incorporate water risks. Some have started to consider ESG data, but this is not enough as it is not a key area of the investment process and current corporate disclosure does not match the rising risks.
  • Water related opportunities are not confined to the water sector. Since every sector is affected by water, there will be innovations and thus opportunities in each of them. Textiles that require less water to be manufactured and new types of food technology that need less water are just a few examples.
  • China is taking the lead. In 2016, under its G20 Presidency, China established the Green Finance Study Group. China’s State Council ultimately wants to embed environmental risks into the credit lending policy thereby ensuring financial resilience. Therefore, in 2018 the central bank published the first ever 400+ page tome titled “Environmental Risk Analysis (ERA) by Financial Institutions”, which CWR co-authored. Currently, the report is only available in Chinese but watch this space!

To remedy this, they can start by mapping their assets…

In conclusion, water risks are financially material yet financial institutions are flying blind. To remedy this, they can start by mapping their assets, ensure the portfolio is resilient to these risks through tilts, divestments and engagements; and find new opportunities. Until this changes, our savings are at risk.


Further Reading

  • 5 Trends For The Year Of The Pig – Pigs are associated with wealth and a carefree life but they can also be lazy, indulging in the “good life”. What fortunes or mishaps will 2019 bring? How can you capitalise on the Pig’s luck? Get a headstart with China Water Risk’s 5 Trends for a Prosperous Pig Year!
  • Balancing Economy With Environment In China – Professor Asit Biswas from National University of Singapore looks at how the environment has risen up China’s agenda from his first trip in 1981. Plus, see why he think China will make spectacular progress going forward
  • Food Revolution 5.0: Digital Printing Meat – Food Revolution 5.0., clean meat… Hong Kong is there. Get the latest from Professor Kenneth Lee of Chinese University of Hong Kong and hear more on his 3D printed foie gras
  • Waste To Fashion In Hong Kong – Redress has successfully sorted 41 tonnes of clothes (=1,240 suitcases – avg check in size). Hear from Anneleise Smillie, Redress CEO, on the good, expansion plans & blockages to their circular work
  • Diet, Food Waste & Kids In 5 Graphics – Agriculture emits as much greenhouse gas as electricity and this needs to change. CWR’s Woody Chan sees 3 ways to reduce this, from changing diets and cutting food waste to fewer kids
  • Time To Get Radical – Alarm bells are ringing for climate change but we are still wedded to the ‘norm’ and on track to miss even the 2°C target. With time running out and serious implications for Asia’s water resources, China Water Risk’s Debra Tan calls for more flashes of brilliance
  • Financial Water Risk: A Unique Investment Opportunity – The first water risk index has been launched by TSC. Founder, Thomas Schumann, explains how the waterBeta model benefits investors and why we should mainstream water risk into portfolios\
  • Where Is The E In ESG Disclosure In China? – China is moving to mandatory environmental disclosure with a tentative 2020 deadline, but where are listco’s now? China Water Risk’s Dawn McGregor & SynTao’s Dr. Peiyuan Guo share 8 key takeaways from their newly released joint report, “CHINA PRIORITISES ENVIRONMENT: More Disclosure Needed To Match Rising Risks”
  • Banking in the Age of Water Risk – Are water risks and their potential impacts factored in by banks? Or is ‘water exposure’ just the water used in their office buildings & branches? Tan says prudence dictates we must start to waterproof portfolios
  • China Water-nomics – Will China’s economic development be hampered by limited water resources?  The very existence of the Three Red Lines signals that China can’t keep developing the way it has. Read on for why GDP will be capped at 5.7% given China’s water-nomics

Dharisha Mirando
Author: Dharisha Mirando
Dharisha Mirando hails from the finance industry and joined CWR as she believes that climate and water factors are downplayed by the sector despite being significant investment risks. To tackle this, her ambition is to help build consensus, bridge the gap between finance and science, and engage with investors to incorporate these risks into their due diligence and portfolio management. This could in turn lead to innovative Green Finance instruments becoming more prevalent. She has already made strong headway as the lead author of a recently published report with Manulife Asset Management and the Asia Investor Group on Climate change, which highlights the imminent threats to Asian asset owners' portfolios from climate and water risks. Dharisha has also undertaken a number of speaking engagements on these pressing issues at investor and insurance conferences. Prior to joining CWR, Dharisha worked for a long-only public equities fund. She has also worked in the impact investment space in London and Singapore where she provided technical assistance to social enterprises, helped them raise equity investments, and managed a debt portfolio.
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