Resilience recognised as critical to sovereign risk and transition planning, as asset owners lead greater focus on physical climate risks.
Adaptation finance flows have lagged funding for the clean energy transition but a greater focus on resilience-related risks and opportunities across the finance sector could unlock “billions if not trillions of dollars” of capital.
Not only could a greater prioritisation of resilience serve to de-risk much-needed investments in the developing markets countries hardest hit by the physical risks of climate change, it could help ensure that the transition plans of corporate issuers are robust and credible.
Last week saw the release of a report by the UK’s Climate Financial Risk Forum (CFRF) which aims to provide a ‘toolkit’ to help financial institutions integrate resilience and adaptation more fully into decision-making across asset classes, sectors, and geographies, including an update to its aim–build–contingency (ABC) framework, released in 2024.
Speaking at a launch event hosted by data provider Bloomberg, Alex Kennedy, Co-chair of the CFRF’s adaptation working group and Head of Sustainable Finance Solutions at Standard Chartered, predicted a “paradigm shift” for credit risk.
“If it’s true that a more resilient asset will be more resistant to climate change then we have to price credit differently. That’s where the opportunity is. If we can channel where capital flows, using credit as a lever, we have the ability to move billions if not trillions of dollars to where it’s needed the most, financing adaptation and resilience in the less developed markets where the negative effects of climate change are soon going to set in,” he said.
This de-risking of adaptation finance could close a yawning investment gap. Overall climate finance flows are estimated to have surged beyond US$2 trillion last year, but the vast majority is directed toward mitigation, largely clean energy technologies.
According to the Climate Policy Initiative (CPI), a non-profit analytics provider, overall climate finance flows need to reach US$7.5 trillion per year by 2030, rising then to US$8.8 trillion required annually up to 2050.
While adaptation finance reached US$69 billion in 2021/22, the global funding gap is widening, according to the CPI. In emerging markets and developing economies alone, it estimates that annual adaptation finance needs will reach US$212 billion by 2030, and US$239 billion between 2031 and 2050.
The CPI points out that estimates are difficult partly because they depend on localised and evolving climate impacts and the effectiveness of climate mitigation strategies.
“Within current planning horizons”
But the development of the tools and data needed to build resilience into finance sector solutions and decisions, as well as an understanding of the underlying science, is being accelerated by initiatives such as the CFRF.
It was founded in 2019 by the UK’s Prudential Regulatory Authority (PRA) and Financial Conduct Authority (FCA) to enhance the financial services industry’s ability to manage climate-related risks and opportunities.
As well as asset managers, banks and insurers, the CFRF’s membership includes pension funds Railpen and Universities Superannuation Scheme.
In addition to its cross-sector convening capabilities, the CFRF’s role in boosting the UK finance sector’s global competitiveness was underlined in opening comments at the event by FCA Chair Ashley Alder.
“We can position the UK as the world’s sustainable finance centre, consistent with the ‘supporting growth’ pillar of the FCA’s five-year strategy,” he said.
Alder also noted the leading role of pension funds and actuaries in addressing material climate risks, but emphasised the need for greater focus beyond those with long-term horizons.
“Many of these risks fall well within the current planning horizons for investors, insurers, lenders and beyond. Firms must be ready to tackle the climate shocks hitting us today, while building resilience to withstand even greater ones tomorrow,” he said.
The ‘From Risk to Resilience’ report was released alongside publications from the CFRF’s climate financial resilience working group on physical risk assessments, climate scenario analysis and nature risk.
The CFRF is also setting up a new working group to deliver a suite of transition finance metrics in line with the recommendations made by the Transition Finance Market Review.
Mainstreaming adaptation
The new report focuses on data, modelling, and incentive-based mechanisms that can mainstream adaptation into financial systems, “making the case for scaling adaptation finance by demonstrating its relevance to financial stability, credit risk, and investment value”.
It updates the CFRF’s ABC framework, designed with input from leading UK universities, to help financial institutions to select future climate change scenarios for use in decision making across different timescales, taking into account emissions, climate, and local hazard responses.
The three ‘ABC’ scenarios are: an aiming for 1.5°C scenario for current and short-term decisions; building and budgeting for 2°C by 2050; and contingency planning for 2.5°C by 2050, particularly relevant to critical infrastructure projects. The update seeks to strengthen assessments of physical risks by users and provide clearer guidance on selection of scenarios.
The report also sets out how firms can systematically integrate adaptation into transition planning, demonstrates how physical climate risk assessments can be directly linked to financial outcomes, and explores how adaptation and resilience can be embedded into products and instruments.
Kennedy underlined the need for ongoing work to improve resilience-related data and metrics, noting the role of CO2e in mobilising energy transition finance.
“Good climate data allows us to structure good financial products,” he said, adding that improvements in data sources were supporting the development of sustainability-linked products.
“Resilience has lacked a ‘talismanic metric’ that we can try to focus our sights on. Being able to focus in on metrics that we can then structure products around is the next step. “
Kennedy said financial institutions were increasingly able to help their corporate clients to quantify the differences between the upfront and post-event costs of adaptation, including the lower cost of insurance and credit for more resilient assets.
“It feels ludicrous how there’s so much investment in resilience post a climate event,” he said. “The cost of inaction is absolutely massive.”
Noting the growing relevance of physical climate risk and adaptation efforts on sovereign credit ratings, the report also called for systematic incorporation of resilience into sovereign risk assessments, with the aim of reducing default risk and financing costs. It also stressed the importance of policy frameworks and transparent adaptation plans in boosting investor confidence.
Tipping points ahead
Also speaking at the CFRF event, Tim Lenton, Professor of Climate Change and Earth System Science, University of Exeter, said institutional investors were increasingly factoring in the physical impacts of climate change, including moving capital away from assets most at-risk from irreversible tipping points caused by climate change.
Earlier this month, 160 climate science researchers released the latest ‘Global Tipping Points Report’, which warned that damage to coral reefs could be permanent.
“Our assessment is that they’ve passed a thermal tipping point for widespread irreversible decline,” said Lenton. “Asset holders who have real estate assets on shorelines that are currently protected from storm surges by those coral reefs ought to be having a careful look at what extra risk that poses.”
He said that at least one UK pension fund he advised was preparing to take action.
“They said, ‘If you tell me we’ve crossed the tipping point, it doesn’t matter if it’s going to take 50 or 100 years for the full brunt of the impacts to be felt. I’m going to start selling some of that asset that you’re effectively telling me is now irreversibly going to become worthless,” Lenton said.
He said that potentially irreversible impacts of climate change required a “more precautionary approach”, warning also that “a significant fraction of the latest generation of climate models” were predicting the collapse of the Atlantic meridional overturning circulation in a 2°C warmer world.
While acknowledging caveats on timing and differences between models, Lenton said the risk needed to be considered seriously.
“I think you can probably all agree that our infrastructure and many other aspects of our country and neighboring countries will [face] a bigger resilience and adaptation investment challenge to cope with that.”
Lenton is the lead author on the tipping points chapter in the International Panel on Climate Change’s seventh climate risk assessment report, due to be published in 2028.
