United States: The OCC develops climate risk management principles for large banks
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The OCC has published a draft Principles for Managing Climate-Related Financial Risks for Large Banks. The draft principles provide banks with âa high-level framework for the safe and sound management of exposure to climate-related financial risks, consistent with the existing risk management framework described in the existing rules and guidelines of the OCCâ.
The draft principles aim to support banks’ efforts to focus on key aspects of climate risk management and âhelp bank management make progress towards answering key questions on exposures and integrating related financial risks. climate in the risk management frameworks of banks â. The OCC asserted that banks are likely to be affected by both the physical risks associated with climate change and the resulting transition risks. The OCC described the physical risks as risks to people and property related to climatic events, such as hurricanes, forest fires, floods, heat waves and sea level rise. Transition risks, on the other hand, were identified as risks presented to the financial sector resulting from changes in “policies, consumer and business sentiment, or technologies associated with the changes needed to limit climate change”.
To address these concerns, the OCC has set out six general principles regarding climate-related financial risk management that banks should focus on, specifically targeting banks with more than $ 100 billion in consolidated assets:
- Governance :In general, banks should “demonstrate an appropriate understanding of climate-related financial risk exposures and their impact on risk appetite in order to facilitate oversight.”
- Strategies:Bank management âshould integrate climate-related risks into policies, procedures and limits in order to provide detailed guidance on the bank’s approach to these risks, in accordance with strategy and appetite for. the risk defined by the board of directors â.
- Strategic planning :Banks must “take into account significant exposures to climate-related financial risks when defining the bank’s overall business strategy, its risk appetite and its financial, capital and operational plans.” Public communications on banks’ climate change strategies must be âconsistent with their internal strategies and risk appetite statementsâ.
- Risk management:Banks should develop and implement âprocesses to identify, measure, monitor and control exposures to climate-related financial risks within the framework of the bank’s existing risk management frameworkâ. Climate-related financial risks should be assessed âacross a range of plausible scenarios and under various time horizonsâ. Various tools and approaches can be used, including âexposure analysis, heat maps, climate risk dashboards and scenario analysisâ.
- Data, risk measurement:Information on climate-related financial risks should be integrated into banks’ âinternal reporting, monitoring and escalation processesâ. Management should monitor developments in âdata, risk measurement, modeling methodologies and reportingâ and âincorporate them into their climate risk managementâ.
- Scenario analysis: Banks should âdevelop and implement climate scenario analysis frameworks in a manner commensurate with the size, complexity, business activity and risk profile of the bankâ. These frameworks should contain “clearly defined objectives that reflect the bank’s overall climate risk management strategies”. For example, these objectives could include âexploring the impacts of climate-related risks on the bank’s strategy and business model, identifying and measuring vulnerability to climate-related risk factors, including physical and transition risks; and estimation of climate-related exposures and potential losses through a range of plausible scenarios. “
The OCC also presented its views on integrating climate-related financial risks into banks’ risk assessment processes, using standard risk assessment principles of credit risk, liquidity risk, other risk. financial, operational risk, legal / compliance risk and other non-financial risk.
The OCC has invited comments from the public on the draft principles until February 14, 2022.
The OCC clearly focuses not only on direct risks climate change (such as coastal flooding and changes in insurance costs), but also on transition risks that arise from efforts to mitigate and adapt to climate change, such as changes in consumer or investor sentiment, new regulations or international agreements, etc. The OCC leaves open the question of the timetable for the big banks to face these risks.
Banks seeking to comply with the OCC Principles should focus in particular on documenting the process by which they track events in the outside world, communicate internally and in advance of those events, and establish processes to assess the potential impact of these events. Underwriting and monitoring real estate portfolios is an important area. In addition to the direct risks to real estate that could result from weather events such as flooding, banks should also consider transition risks for their real estate portfolios resulting from new municipal regulations such as Local Law 97 of the City of New York, which imposes energy efficiency requirements on buildings owners.
- OCC Principles for Managing Climate-Related Financial Risks for Large Banks
- OCC Bulletin: Risk Management – Principles of Climate-Related Financial Risk Management for Large Banks; Request feedback
- House Financial Services Committee press release: Waters applauds FSOC and OCC actions to address climate-related financial risks
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