On Friday, 7th May, James Milne, Head of Product at AlphaCert sat down with Stephen Huppert, Independent Consultant and Advisor, to discuss climate change financial risk.
In this episode, James and Stephen chat on the legislative differences between Australia and New Zealand, the difference between ESG and Climate Risk Legislation, and what data is involved in assessing the climate risk for investment managers.
Proposed climate change legislations: What’s the difference across ANZ?
James Milne:
Hi everyone, and welcome to another Alpha Chat. I’m here with Stephen Huppert to discuss the upcoming legislation in New Zealand and also the guidance that’s been issued in Australia around climate change risk. Stephen, thanks for joining us, a very interesting topic. And I guess it’s a general introduction to it, what we’re seeing is regulators and supervisors around the world developing responses to a data deficit, really, in climate change data.
Stephen Huppert:
That’s right, James. Good to be with you again. And certainly, regulators have been talking about this for some time. New Zealand was the first country to act and as you say, there’s legislation sitting in parliament as we speak around the disclosure of climate change financial risk. And here in Australia, just again, two weeks ago, APRA released a guidance note, a draft guidance note looking for submissions from the industry to talk about how they are going to look at reporting climate change financial risk.
James Milne:
Yeah. And what do you think, Stephen, the main differences are in terms of what we’re seeing in New Zealand? Obviously, we’ve got legislation in New Zealand, business guidelines in Australia. What do you think the main differences between what’s being proposed in either country are?
Stephen Huppert:
Yeah, I think first of all starting with what’s similar, and I think the key issue is that climate change is now being treated as another financial risk that needs to be disclosed by financial services organisations. And that’s, I think, a really important step forward. In New Zealand it’s being done in terms of a legislative instrument. Here in Australia, we’ve already… APRA is the prudential supervisor for the financial services and does issue a lot of prudential standards on reporting of risks. And what they’ve done, rather than changing the prudential standards, they’ve issued a new guidance note on how to include climate change risk in with all the other risks that organisations have to monitor, and more importantly, disclose. And so it’s not new legislation in Australia like it is in New Zealand, but the impacts will be similar.
James Milne:
Right. And I see for New Zealand, the timing for investment managers, we’re looking at a draft legislation going through parliament right now. And in terms of the rollout, the impact on investment managers having to look at climate risk as part of their mandate across investments, we’re looking at 2023. How does that work in the guidelines that have been issued in Australia?
Stephen Huppert:
So in Australia, it’s been a slow process, like I guess similarly in lots of places. Getting changes to legislation or regulations does take time. APRA first talked about this about four or five years ago and has been slowly evolving its thinking. 12 months ago it issued a letter to financial institutions talking about the guidance it’s proposing, and as I said, just a couple of weeks ago it released draft guidance. So it’s taking submissions from the industry. It has been delayed due to COVID. They did sort of pause it a bit. So we expect a pretty similar sort of timeframe to New Zealand, depending on the response from the industry. One of the things that APRA has said when they put out the draft guidance notes a couple of weeks ago, one of the reasons they’ve done it is that the industry has been asking for the guidance to make sure there’s some standard ways that financial risks of climate change are being reported.
Is climate change financial risk the same as ESG?
James Milne:
It’s really important to get that framework in place, isn’t it, so that everybody knows exactly how they’re going to be reporting. And what we’re talking about here is far beyond ESG. We’re now talking about taking into account climate risk as part of your risk strategy as a whole new risk category, aren’t we? Alongside things like credit risk.
Stephen Huppert:
That’s right. And so it’s not just part of your investment thesis, but it’s something that the risk management teams are going to have to work out how they include in their risk management frameworks. And APRA has gone to quite a bit of detail on talking about the types of risks. So one of the things that APRA has flagged is that the impact of climate risk on other risks like liquidity or credit risk. So if you’re investing in organisations or lending to organisations, you need to understand their own climate risk. And they’ve also looked at physical risks. So rising sea levels, changes in natural disasters, those sorts of things. They’ve talked about transition risk, because as policies change, organisations are going to have to adapt. And companies, organisations around the world are looking at net zero. What does that mean for their planning process? And so there’s a transition and what are the risks emerging from that transition?
Stephen Huppert:
And APRA has also flagged liability risks. And that’s especially for insurers doing underwriting claims. Both New Zealand and Australia, we’ve seen some pretty significant natural disasters in the last few years, many of them exacerbated by climate change. So it’s very important from an underwriting point of view that insurance companies understand the impacts of climate change on their financial risks. And to your point about ESG, I think the key differences are ESG is part of the investment process, whereas now climate change needs to be part of everything that an organisation does from risk management through to financial disclosures in annual statements.
What data should be involved in defining climate change financial risk?
James Milne:
Absolutely. Yeah. And then the next part of that, Stephen, I guess following on is from a data perspective. Of course risk management relies completely on good data, and we’re talking about here a whole complete set of additional or new data to assess climate change risk for investment managers, aren’t we?
Stephen Huppert:
That’s right. And one of the things that APRA has talked about, and I’m sure it will be also part of the New Zealand legislation, is organisations need to do scenario planning. Here in Australia, APRA has actually recommended a couple of scenarios about different degrees of temperature rises and understanding what impact that might have on your business. And that requires data. And it requires a different type of data that financial services companies are used to collecting.
James Milne:
Yeah, definitely. Well, I think to get to net zero in 2050, which is the goal in both New Zealand and Australia, it’s an absolutely key step on that journey to have all the investment managers, insurers in New Zealand, it’s anybody who’s managing more than a billion dollars or the top 200 roughly listed companies and listed issuers across the stock exchanges who are having to adhere to this guidance. I think it’s absolutely necessary to get on that goal towards net zero by 2050.
Stephen Huppert:
Absolutely. And here in Australia it covers banks, insurers, and superannuation funds, and anybody managing large amounts of investments, yep.
James Milne:
Okay. Well, thanks for your time, Stephen. Good to learn a bit more about how this new legislation and new guidelines is going to impact investment managers over the next few years.
Stephen Huppert:
Thanks very much, James. And we’ll talk again soon.
James Milne:
Cheers.