Climate and Sustainability – Q1 2023

The UK Government issued its long-awaited update to the Green Finance Strategy in March 2023.

Two broader themes that are worth highlighting amongst the detailed announcements in the strategy document are: first, a greater inclusion and appreciation of nature-based aspects; and second, a strong emphasis on transition aspects associated with moving to a low-carbon, nature-positive economy.

The FCA also issued its new Asset management Supervision strategy in February 2023. The document talks about supervisory priorities in ESG and Sustainable investing.

The Bank of England shared its latest thinking on climate-related risks and regulatory capital frameworks in a report. Although the report does not set out any policy changes it provides updates on climate risk capability and capital regime gaps.

Mobilising Green Investment: the UK Government’s 2023 Green Finance Strategy

The UK Government issued its long-awaited update to the Green Finance Strategy in March, which refers to two themes: Greening finance and Financing Green.

Greening finance - Enabling the market to align with UK climate and environmental goals

Transition Plans - A broad theme in the strategy document was around transitioning to a low-carbon, nature-positive economy. As part of that, the Government commits to consulting (in Q3 2023) on the introduction of regulatory requirements for the UK’s largest companies (including financial services firms) to disclose their Transition Plans. This is supported by the Transition Plan Taskforce (TPT), which is currently developing best practice for companies and investors seeking to disclose transition plans.

What management should consider

The roll-out of Transition Plans as a way for firms to disclose their transition to net zero is an important next step in the international regulatory agenda for achieving a sustainable low-carbon economy. TPs, if designed appropriately should create transparency through enabling all market stakeholders to see which firms are setting credible net zero commitments and how they are progressing in meeting them

UK Green Taxonomy – The Government will consult on a Green Taxonomy in Autumn 2023. This will provide investors with definitions of which economic activities should be labelled as green. This will be the foundation tool to support the quality of standards, labels and disclosures used throughout the industry for green finance activities.

The Government is also considering whether they should pursue a ‘Transition Taxonomy’ that will permit activities that are transitioning to green outcomes.

What management should consider

Having a Green Taxonomy is an important step; it will enable many green finance measures that you are implementing to be able to align to clear definitions of what are acceptable green activities.

Effective investor stewardship and fiduciary duty – The Government will work with financial services regulatory authorities to review (in Q4 2023) the regulatory framework for effective stewardship including the operation of the Stewardship Code.

What management should consider

A robust stewardship framework, and governance around ESG commitments and investments is a high priority for the UK regulators and should be considered actively by Boards.

Introducing Sustainability Standards - The UK government intends to launch a formal assessment mechanism as soon as the first two International Sustainability Standards are published by the ISSB in June 2023. This assessment aims to ensure that the standards endorsed for use in the UK are appropriate for UK companies. These standards will provide the basis for future obligations within company law and FCA requirements for listed companies and ensure that a single set of sustainability standards are applied across the UK regulatory framework.

What management should consider

The ISSB standards will form the basis for a UK adopted version for sustainability reporting by UK firms and should therefore be assessed closely by Boards.

Incorporating nature-related financial risks - The Taskforce for Nature-Related Financial Disclosures (TNFD) is the nature-equivalent of the TCFD framework. The government will explore how best to incorporate the TNFD framework into UK policy and legislative architecture, in line with Target 15 of the Global Biodiversity Framework (the biodiversity equivalent of the Paris Agreement for climate).

What management should consider

Incorporating nature into the sustainable finance regulatory and net zero agenda is a broad theme that permeates throughout the updated Green Finance Strategy. The TNFD requirements will be the likely approach for firms to implement governance, strategy, risk management and disclosure around nature in their businesses.

Scope 3 greenhouse gas (GHG) emission reporting – The government will launch a call for evidence on Scope 3 greenhouse gas (GHG) emissions reporting to better understand the costs and benefits of producing and using this information. The outcome is to update the Environmental Reporting Guidelines, including for Streamlined Energy and Carbon Reporting, which provides voluntary guidance for UK organisations.

What management should consider

Reporting Scope 3 GHG reporting is a particular challenge for firms. The outcome will also have a direct impact on what firms include in their financial accounts.

Financing Green - Mobilising and creating opportunities for green investment

This section of the strategy document contains numerous initiatives to help unlock finance for green investment.

Transition Finance Market Review (TFMR) – TFMR will consider what the UK financial and professional services ecosystem needs to do to become a leading provider of transition financial services and innovative instruments on the pathway to 2050. The review will leverage and align with the TPT work mentioned earlier.

What management should consider

The Government is keen to expand the opportunity set of financing tools used by companies to raise finance as part of their transition to net zero.

Carbon markets – The Government is going to consult on the specific steps and interventions needed to support the growth of high-integrity voluntary carbon markets and protect against greenwashing.

What management should consider

The Government aims to position the UK as a global hub for voluntary carbon trading. Management should stay abreast of international work on building consistent standards for carbon credits to build transparency, credibility, and trust (for example, the work of the Integrity Council for Voluntary Carbon markets).

Nature Markets Framework – Alongside the Green Finance Strategy the Government issued a Nature Markets Framework. This sets out principles and priorities for the development of high-integrity markets to attract investment in natural capital, and to develop a comprehensive suite of nature investment standards.

What management should consider

A credible framework of standards around nature would help investors to make more nature-positive capital allocation decisions and develop the biodiversity credit market (the nature equivalent of voluntary carbon markets).

FCA’s new Asset Management Supervision strategy

The FCA published its new Asset management Supervision strategy in February 2023. One of the supervisory priorities is ESG and Sustainable investing.

The FCA is concerned that some claims about ESG and sustainable investing are misleading or inaccurate. The FCA will test whether firms deliver on the claims made in their communications with investors.

What management should consider

Governance bodies are appropriately structured to oversee and review management information about product development, ESG and sustainability integration in investment processes, third-party and proprietary ESG information providers, and other ESG and sustainability claims made by the firm.

Bank of England report on climate-related risks and regulatory capital frameworks

The Bank of England’s latest report added to its October 2021 publication and brought new findings, such as:

  • The existing capability and regime gaps create uncertainty over whether firms are capitalised enough for future climate-related losses.
  • Effective risk management controls can reduce the amount of capital required in the future for resilience.
  • The existing time horizons over which risks are capitalised are appropriate for climate risks.
  • Further research and analysis are needed in, among others, assessing whether there are regime gaps in the current macroprudential framework, and in improving the use of scenario analysis and stress testing in informing capital requirements.

What management should consider

Banks and insurers should pay close attention to BoE’s updates on the suitability of the existing capital regime to respond to climate-related risks. Although no policy changes have been proposed at this time, further research and analysis can contribute to the continued discussions on this topic.

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