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What is the future for climate disclosure?

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Thibaud CLISSON
 

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It’s only a matter of time before companies will have to report on their climate-related risks. They should get ahead by putting the processes in place to do so now, says Thibaud Clisson.

For the financial sector to respond adequately to climate change, it needs adequate information on the risks that climate change poses to portfolios, specific sectors and individual companies. Currently, however, this information can be hard to come by. When it is available, it is often in formats that don’t allow for easy comparison.

Many institutions are working to address this voluntarily or with a regulatory perspective. What does the landscape for disclosing information on climate change look like, and how will it change in the future?

The playing field – It’s best to check

The good news is that a growing number of companies are reporting climate-related risks.

Data [1] from CDP (formerly known as the Carbon Disclosure Project) shows that in 2020, over 9 500 companies representing 50% of global market capitalisation disclosed climate change-related information through the non-profit’s framework, which is aligned with the recommendations of the Taskforce on Climate-related Financial Disclosures (TCFD).

That is a 14% increase on 2019, and it is 70% more than when the Paris Agreement on climate change was signed in 2015.

exhibit 1 disclosure

Meanwhile, TCFD’s latest status report [2] finds 85% more firms – a total of 1 500 – are backing its voluntary disclosure framework this year compared to 2019.

Despite these positive trends, TCFD says the current level of disclosure across various sectors is inadequate. Separate research [3] indicates that emissions data available from four unnamed third-party corporate emissions databases is of low quality and does not match what was actually reported, with future projections of emissions also not accurate.

In that sense, it’s important for interested parties to check the accuracy and source of any emissions data they are using. Data reported by the company itself and audited emissions reports are preferable.

This highlights one thing: Investors who care about the carbon progress of companies should push them to analyse and report on their emissions and climate risks directly.

Disclosure works and pays

Research [4] shows that investors can play a significant role, with companies more than twice as likely to make climate disclosures after investor pressure.

Evidence is also building that climate disclosure discourages investment in high-polluting industries that put the goals of the Paris Agreement in jeopardy. A recent study by Banque de France [5], for example, found mandatory climate reporting led to French investors cutting stakes in fossil fuel companies by 40%.

What’s more, disclosure has been tied to stronger financial results. CDP has highlighted a correlation between effective climate disclosure and financial performance. Companies that score highly in its disclosure framework outperformed reference indices by an average of 5.3% per year over a seven-year period, according to the organisation.

Mandatory reporting – It is coming

Disclosing climate change data is currently voluntary, but eventually, companies will no longer be able to decide whether to disclose.

The UK Financial Conduct Authority has outlined plans for all asset managers and pension schemes to face mandatory reporting requirements for climate risks in line with TCFD. Premium listed UK companies will be required to disclose information to investors in line with TCFD by the spring of 2022. Large UK companies will have to do the same, with these rules becoming compulsory by 2025.

Switzerland’s sustainable finance policy aims to make reporting under TCFD mandatory.

In the US, under the Biden administration, the Securities and Exchange Commission is instituting rulemaking and guidance on mandatory climate risk disclosures over the coming years to replace current voluntary rules.

In Europe, the EU’s Sustainable Finance Disclosure Regulation (SFDR) will move beyond firms setting up a process for reporting their due diligence on principle adverse impacts towards more specific reporting on climate and environmental objectives in 2022.

Universal standards are lacking

One obstacle that is regularly brought up when discussing climate disclosure is the lack of universal standards. This makes it difficult to address progress and hold companies to account.

The UK’s Financial Stability Board, perhaps recognising the need to overcome this hurdle, has said it is planning to produce a coordinated approach to addressing climate risk to the financial system. This includes reporting to G20 countries on how consistent disclosures can be made in lockstep with TCFD.

Commentators and companies have argued the TCFD framework should be used as a means to standardise climate risk reporting.

Reporting on emissions is one thing. Alongside this, companies’ emissions reduction efforts themselves need to be improved. Data [6] from 6 000 companies indicates that, despite a raft of net-zero pledges, emissions reduction plans are currently aligned with a rise in the global temperature by 4C. That is ahead of the ‘Paris’ target of an increase well below 2C.

When it comes to disclosure, all companies should look to implement a robust and thorough framework for monitoring and reporting their emissions and climate-related risks. This will not just help them to plan effectively and get ahead of regulation. It will also allow the wider financial system to respond effectively to climate change.

[1] See https://www.cdp.net/en/companies/companies-scores

[2] See https://www.fsb.org/2020/10/2020-status-report-task-force-on-climate-related-financial-disclosures/

[3] See https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3722973

[4] See https://www.bloombergquint.com/onweb/investor-pressure-boosted-climate-disclosures-in-2020-says-cdp

[5] See https://www.banque-france.fr/sites/default/files/medias/documents/wp800.pdf

[6] See https://www.ft.com/content/798f752a-5db1-498c-8d1d-6389b66f317d


Any views expressed here are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients. This document does not constitute investment advice.

The value of investments and the income they generate may go down as well as up and it is possible that investors will not recover their initial outlay. Past performance is no guarantee for future returns.

Investing in emerging markets, or specialised or restricted sectors is likely to be subject to a higher-than-average volatility due to a high degree of concentration, greater uncertainty because less information is available, there is less liquidity or due to greater sensitivity to changes in market conditions (social, political and economic conditions).

Some emerging markets offer less security than the majority of international developed markets. For this reason, services for portfolio transactions, liquidation and conservation on behalf of funds invested in emerging markets may carry greater risk.

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