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Effective transition-relevant metrics would benefit financial institutions and support global net-zero goals

financial institutions would reap from having access to effective transition-relevant metrics

Financial institutions find it challenging to identify transition-relevant data among the mass of climate risk, finance, and opportunity information that's currently provided through companies' disclosures.

More and more financial institutions are disclosing climate indicators and quantifying how much their actions contribute to net-zero goals.

Although there has been an explosion in the amount of information available about financed emissions, portfolio alignment tools, and other climate indicators, the financial sector has not yet significantly adjusted how it approaches the low-carbon transition.

The Rocky Mountain Institute (RMI), a non-profit group striving for a carbon-free international energy system, says this is not the case at the present time.

In other words, the financial sector's contribution to the low-carbon transition cannot be measured or incentivized using climate metrics.

There may be a disconnect because banks aren't getting the raw data they need to build effective TRMs.

While there is a wealth of information about climate risk, finance, and opportunity provided by company disclosures at present, the RMI claims that it is challenging for financial institutions to identify data relevant to the transition.

Financed emissions have been criticised for not driving real-economy emission reductions or supporting the transition to a net-zero emissions economy.

Obtaining this information is also challenging.

The second is that information about emissions has been given more attention than transition indicators that are important to the economy.

Commonly used climate indices and their shortcomings Several metrics for measuring the climate transition have gained traction in recent years, largely thanks to the efforts of groups within the financial sector.
Financing institutions can reduce their portfolio emissions without necessarily driving real-economy emission reductions or supporting the transition to a net-zero emissions economy, which has been a point of criticism for financed emissions in recent months.

Also, the RMI paper admits that the metric can lead to perverse incentives.
Secondly, most of the emissions data that banks receive from companies is historical, painting a picture of their past carbon performance rather than their potential future emissions pathways.

The GFANZ community has embraced these metrics because they promise to show how well financial institutions' portfolios align with global climate goals.

But just like financed emissions, a company can "improve" its portfolio alignment metric by selling off misaligned companies, which may or may not reduce its emissions.
While portfolio alignment metrics can help keep tabs on which businesses have committed to or are in the process of committing to specific warming pathways, they are not intended to provide information to stakeholders regarding the quantity or quality of climate financing or efforts to phase out high-emitting assets.

Transition-relevant metrics must be used in financial institution decision-making.

A common criticism is that there are no metrics connecting businesses' climate progress (or lack thereof) to their bottom lines.

However, the RMI found that climate financial metrics are preferred by financial institutions over pure climate metrics, such as those linked to company revenues, R&D spending, and cost of capital.

Companies' willingness to invest in the low-carbon transition can be demonstrated through climate financial metrics presented to investors.

A panel of experts at New York Climate Week addressed the lack of these metrics. Future Pathways Given these challenges, what is necessary to create useful climate transition metrics?

To begin, there needs to be uniformity in how companies disclose information about their internal environments so that banks can fairly evaluate each company's preparedness for change.

Second, organisations that set standards and represent investors should push businesses to share green capital expenditure metrics like the one Ninety One's Moola helps to calculate.

Transition-relevant metric alignment across financial institutions can be slowed by various factors.
Finally, it is crucial that financial institutions are able to incorporate transition-relevant metrics into their decision-making processes.

Compensation packages for top executives at a financial institution could be better aligned with transition objectives if metrics pertinent to the transition were used.

However, the benefits that financial institutions would reap from having access to effective transition-relevant metrics and the backing they could give to global net-zero goals would make the effort well worth it.

Esther Brown

Staff writer

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