Climate risk advisory firm of the year: Planetrics

Energy Risk Awards 2022: New climate risk model combines climate, economic and financial models with entity-specific data for precise modelling

Thomas Nielsen, Planetrics

For financial institutions, understanding climate-driven risks and opportunities for their business is becoming critical. Almost all sectors of the economy will be impacted by climate risk in the coming years. These risks include the physical impacts of climate change, as well as the financial and operational risks of transitioning to a low-carbon business and complying with environmental legislation.

In response to these changes, insurers, banks, investors and other financial organisations are increasingly seeking to develop new strategies and risk management practices. They also face rising expectations to disclose publicly their exposure to climate risks and to participate in climate-focused regulatory stress tests.

Yet calculating climate risk is enormously challenging. Financial institutions can be exposed to thousands of counterparties and multiple asset classes. A counterparty’s climate risk depends on its individual characteristics, including its greenhouse gas emissions, geography and industry sector. In addition, each counterparty’s climate risk is driven not only by its activity today but also by the changes it will undergo over the next three decades or more. For corporate counterparties, this risk includes their ability to set and then achieve net-zero carbon emissions and other climate-related goals. For financial firms with large portfolios of counterparties, complying with these requirements is tremendously complex.

Modelling financial-sector climate risks and their potential impact on asset values requires an approach that is sufficiently detailed to account for individual counterparty characteristics and scalable to thousands of counterparties. Preferably, it would be available in a single platform spanning multiple asset classes and geographies. McKinsey set out to fulfil these requirements with its Planetrics climate risk model.

Developed over several years and still regularly updated and expanded, the model has helped support pioneering industry initiatives. It was used to underpin the work of Principles for Responsible Investment, an organisation created and supported by the United Nations to prepare investors to manage portfolio risks arising from climate policy. Members of the Institutional Investors Group on Climate Change used the model to test their framework for investors to align their portfolios with net-zero emissions goals.

The model has also been widely deployed commercially and applied to critical projects at tier-one financial firms. For example, multiple UK and European Union-based institutions used the model to support their participation in the Bank of England and European Central Bank’s recent regulatory stress tests. Other institutions have used the tool to inform their portfolio strategy and climate risk governance. Further, the tool has been deployed by many institutions – including those following the guidelines of the Task Force for Climate-related Financial Disclosures – to inform reporting and disclosure.

“Planetrics has been at the forefront of climate risk management since it first emerged,” says Thomas Nielsen, chief executive of Planetrics. “Up to now, tools for investors to manage their risk in energy transition have been limited and fragmented. Planetrics makes it simple for financial institutions to quantify, report and manage a comprehensive set of climate-related risks and opportunities,” he adds. “Our model empowers clients to build more climate-resilient portfolios, protect assets from climate impacts, engage with companies in exposed sectors, and identify new growth and investment opportunities.”

Tommi Oksanen, McKinsey

The model comprises a suite of climate, economic and financial models that allow users to estimate the cost of climate risk on their financial assets, and the degree of exposure under any number of climate scenarios. Covering both physical and transition risk, the model allows clients to create bespoke climate scenarios that reflect their own exposures and concerns.

“This flexibility is important, as it means users are no longer locked into off-the-shelf assumptions about future developments in policy and technology,” says Tommi Oksanen, director at McKinsey’s Planetrics team.

The model also provides a broad set of climate metrics, including value-at-risk, temperature alignment and emissions intensity. It can provide results for individual securities, portfolios, and/or sub-portfolios, for example, by country or sector. The model even offers clients a range of possible interfaces, including full technology integration with the client’s own systems, and a web-based interface.

Planetrics is expected to continue evolving into the future. “We have a dedicated modelling team working to a quarterly update cycle, and we are constantly improving our analysis, ease of use and flexibility – as well as reflecting the latest insights from climate science and economics,” notes Oksanen. “This is, of course, a fast-moving field, and we are determined to continue leading it.”