Integrating Climate in Credit Risk Modeling

• Focus on the quantitative approaches to the financial materiality that ESG risks can have for credit risk.
• Insight into practical aspects of adapting financial risk modelling
• A thorough review of related academic research and its implications
• Perspective based on international experience in ESG

• To have a thorough understanding of the conceptual foundations of climate-driven credit risk modelling.
• To apply materiality assessment at a company level and portfolio level for the impacts on the credit of physical and transition climate risks
• To understand how physical and transition risks transmit into credit risk metrics such as PD, LGD, and EAD
• To comply with current regulatory requirements and/or recommendations
• To integrate climate factors into credit risk modelling for PD and LGD
• To integrate climate risk management tilts into the credit risk scorecard model

Conceptual foundations for climate-driven credit risk modelling

• Climate change and financing
• How to define an ontology of credit-relevant climate risk factors
  • Event risks
  • Outcome risks
  • By product
  • By sector
  • By geography
• Epistemic and data considerations: from judgmental modelling to statistical modelling of climate risks
  • Judgmental credit risk modelling, aligned with current ECB, EBA, and PRA regulations
  • Statistical modelling of commercial credit risk, currently under development at banks

Climate risk assessment and its impact on credit risk

• Physical climate risks assessment methodologies
  • Vulnerability assessment: exposure, sensitivity, and adaptive capacity for physical risks
  • Sensitivity assessment
  • Value at risk for physical risks
  • Climate stress tests for physical risks
• Transition climate risks assessment methodologies
  • Vulnerability assessment: exposure, sensitivity, and adaptive capacity for transition risks
  • Sensitivity assessment
  • Carbon accounting
  • Green/brown ratio
  • Value at risk for transition risks
  • ‘Temperature’ (ie Paris alignment)
  • Stress tests for climate transition risks
• Climate risk transmission and its impact on PD, LGD, and EAD (ie “ESG credit risk”)
  • From physical risks to PD, LGD, and EAD
  • From climate transition risks to PD, LGD, and EAD
  • From climate risks to non-credit supervisory risks, to credit risk

Integration of climate risk in credit risk modelling

• Integration of climate risk factors into shadow PD models:
  • Data preparation
  • Variable selection
  • Credit Risk Model development
  • Credit Risk Model validation
  • Risk Calibration
• Integration of climate risk factors into shadow LGD models:
  • Data preparation
  • Variable selection
  • Credit Risk Model development
  • Credit Risk Model validation
  • Calibration
• Integration of climate risk factors into credit scorecards
  • Sector tilts
  • Geographic tilts

The trainer is a former banker specialising in sustainable finance and with experience ranging from client coverage, credit risk management, financial restructuring and product innovation. Across the Americas and EMEA, the trainer has worked with banks, asset managers, pension funds, DFIs, social enterprises, financial regulators, fintech and universities. His drive comes from a desire to help grow businesses and institutions that successfully combine commerciality and sustainability at scale. Having previously led the banking group at the University of Cambridge Institute for Sustainability Leadership (CISL) where he worked with Risk-related senior and middle management to integrate ESG across the various risk frameworks and product development strategies. He now holds a Senior Associateship at CISL with a special focus on fintech for sustainability and is a visiting lecturer at various universities.

The jury is still out on whether and to what extent climate-related risks are already incorporated into credit pricing and other financial indicators and their models. The reality is that the physical impacts of climate change and the need to adapt to increasing climate-related regulation are currently having impacts on business models, revenue, costs, and other business factors. This applies both to financial institutions as well as real economy businesses. To date, little advancement has been made in “climate risk modelling” by financial institutions, and financial supervisors are applying pressure to change that.

The course helps participants to distinguish between the underlying concepts of climate-change-driven credit risks, and navigate the limitations of currently available practices such as data availability. Participants will identify the risk transmission channels that lead from climate change to the financial impact on corporates. Finally, the course takes participants through the steps to practically integrate these risks into existing credit risk scoring models.