ON Climate Assessment Framework | Model Risk Management

Building confidence in an uncertain world

Climate change will have a significant impact on every aspect of our economy, threatening the profitability and sustainability of even the most resilient businesses. The effects of this disruption will vary widely across different sectors, representing an existential threat to some and an opportunity for others. Standard approaches and historical data are of little value, which is why we’ve developed an approach — proven in predicting vulnerability to COVID-19 during the pandemic — to help lenders navigate the many complex scenarios resulting from climate change.

Data is the driver A forward-looking, data-driven approach to forecast the consequences for a specific business and suggest actions

Transition risks Identify how new climate change policies and transitions could impact credit risk and strategy in your loan book

Physical risks Understand the risks and potential impact of various climate change scenarios to become more resilient

2021 Executive Order on Climate-Related Financial Risk

The failure of financial institutions to appropriately and adequately account for and measure these physical and transition risks threatens the competitiveness of U.S. companies and markets, the life savings and pensions of U.S. workers and families, and the ability of U.S. financial institutions to serve communities.

"Climate change risk will be a key focus area for regulators going forward, so banks need to be thinking about how they’ll address this - if they’re not already."

Bruce T. Richards
Former SVP at the Federal Reserve Bank of New York

OakNorth Climate Change Risk Framework

The growing risks posed by climate change are systemic and pervasive, impacting every asset class, as well as the profitability and long-term sustainability of some of the most resilient businesses.

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Data is the driver

Our Climate Assessment Framework provides a forward-looking, data-driven approach to forecast the consequences for a specific business, suggest actions to mitigate possible risk and target them appropriately. OakNorth gives banks the granular detail they need to fully understand the impact of climate change and related policy actions on each borrower and aggregate this to get a sense of impact on the book overall, making reporting simple and allowing them to take early action on any areas of concern. The Framework examines multiple drivers specific to each industry subsector, providing an ongoing evaluation of the impact on the loan book over the short (5 years), medium (10 years) and long (20 years) term. This bottoms-up approach considers the climate related financial risks across two distinct categories: Transition and Physical.

Transition risks

This identifies how a low-carbon policy and technological transition towards mitigating climate change could impact the credit risk in a bank’s loan book, as well as its lending strategy. Our modeling is based around four possible scenarios, ranging from a temperature rise of below 2°F to a more extreme situation of 4.3°F and above, mapping these to each subsector according to its carbon intensity. For example, oil, gas and transportation will experience profound, direct impact while the services and retail sectors will experience residual (but still significant) impact.

Physical risks

Extreme, localized events such as floods, drought, hurricanes and winter freezes as well as chronic changes in climatic patterns such as rising temperatures, change in precipitation, increasing sea levels and desertification. Such events, along with accelerating change, pose risks in terms of individual incidents of damage and disruption or chronic shifts in labour, capital and other essential business drivers. Applying the ON Climate Assessment to your loan books enables you to understand the risks and potential impact of various climate change scenarios, enabling you to take a strategic view of your current loan books as well as shaping loan exposure to become more resilient.

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Climate Risk

Assess and prepare for financial risks of climate change with mitigations driven by sector-specific data