The further development of our climate risk management framework is a key pillar of our approach to sustainability and climate change.
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Climate risks are distinct from the majority of risks that Deutsche Bank faces in the sense that (i) certain risks may only materialise over the long-term, (ii) there is limited historical data – particularly in relation to transition risk – to base a forward-looking risk appetite upon and (iii) traditional/existing metrics will not be appropriate/sufficient to manage climate risk.
We are focused on developing the ability to identify, measure, monitor and control these risks in alignment with the Task Force on Climate-related Financial Disclosures (TCFD) recommendations, peer best practice and relevant regulatory guidance.
Risk identification and measurement
We have developed an internal, sectoral-based climate risk taxonomy which classifies all of our institutional credit exposures. The classification is based on (i) the EU taxonomy for environmental criteria, (ii) scope 1 and 2 carbon emissions data at the client level (where available) or sectoral level and (iii) internal expert judgement.
This initial work has enabled us to estimate our institutional credit portfolio carbon intensity and benchmark this to relevant global comparators, as well as to identify at a high level which clients and sectors are key contributors to our financed carbon emissions.
Transition scenario analysis and stress tests
A key component in climate risk management is the development of transition scenario analysis, enabling us to assess the potential impacts of policy and behavioral changes on our clients.
In 2019, Deutsche Bank piloted transition scenario analysis for the bank’s key carbon-intensive industries: Oil and Gas, Utilities (electric power and natural gas) as well as Steel, Metals and Mining.
- We used the International Energy Agency “Sustainable Development” scenario as a basis for the analysis. The scenario is consistent with the Paris Agreement’s objective of holding the increase in global average temperatures to well below 2°C above pre-industrial levels and contains energy demand projections across key sources in line with that objective.
- We applied downward probability of default (PD) rating migrations to our portfolios.
- We assumed an increase in loss given default ratios across all clients.
The results were translated into estimates of how expected loss would develop over the medium to long term for the selected portfolios. While the bank does see meaningful downward rating migrations for our carbon-intensive portfolios under the “Sustainable Development” scenario (before any mitigating actions), the overall impact on the bank’s balance sheet quality would remain contained, supported by the bank’s focus on well-rated and diversified clients.
We are developing a more comprehensive approach to scenario analysis, applicable to all sectors, modelling the impacts of demand developments, transition capex and carbon pricing. We are participating in the second phase of the United Nations Environment Program Finance Initiative’s (UNEP FI) pilot project to support this initiative and are also voluntary participants in the European Banking Authority’s pilot climate sensitivity exercise.
Our principal tool for managing sectoral exposures is our industry risk management framework. A key input into industry risk assessment, risk appetite setting and frequency of review is our short- and long-term internal industry risk ratings, which incorporate an assessment of an industry’s vulnerability to climate risks. Industry risk ratings are also included as an input into our internal rating model for the PD of counterparties.
From a physical risk perspective, an in-house analytical team measures and monitors country- and selected city-specific risks, including natural hazard risks to our assets and operations. These risk assessments inform strategic location planning and scenario design for testing and exercising crisis management in order to ensure robust business continuity, corporate security plans and crisis management plans.
Physical risks to our clients and assets are considered in the assessment of, and risk decision-making in regard to, credit and market risk exposures that may be heavily impacted by acute events.
In 2020, we will establish formal Principles for Managing Climate Risk for Deutsche Bank. These will include a set of guiding principles and qualitative risk appetite statements in relation to climate risk which must be adhered to across the bank. This document will be supported in future by the development of climate risk-specific quantitative risk appetite targets applicable to each of the principles/qualitative statements.
Asset Management – DWS
Climate change is a significant risk for investors, from the financial losses incurred from extreme weather events to asset re-pricing in the transition to a low-carbon economy. As a signatory of the Principles for Responsible Investment, DWS is committed to implementing the recommendations of the Task Force on Climate-related Financial Disclosure.
To identify leaders and laggards in the field of climate change, DWS has included a Climate Transition Risk Rating in its ESG Engine which is based on carbon intensity. This allows the identification of climate laggards and frontrunners within traditional asset classes and serves as a starting point to obtain insights for product groups with alleviated risks stemming from climate transition.
DWS uses the latest generation of climate risk scores from leading ESG data vendors like MSCI, ISS-oekom and Sustainalytics and derives a cross-vendor climate assessment. While all of the data vendors seek to identify leaders in this field, they apply different methods. The Climate Transition Risk Rating harmonises the scores by determining an implicit relevance and derives a consensus climate risk rating, which is relevant for DWS portfolio management and bespoke client solutions. The model places emphasis on absolute as well as relative leaders plus laggards. This way, the DWS Climate Transition Risk Rating scores become more pronounced on carbon risk and opportunities.
Access to the scores is provided globally to DWS portfolio managers and analysts in Equities, Fixed Income and Multi-Asset. This includes visibility on higher-rated companies that offer climate solutions and manage the transition of their product portfolio into a carbon-free world.
In addition to the integration in the investment management process, sustainability risk and climate risk indicators as well as physical and/or climate transition scenarios are being integrated into DWS’s investment risk management process. This is expected to imply, among other things, the integration of risk thresholds with respect to various ESG ratings.
Besides rating-based indicators, scenario analyses and stress tests will be used to assess the exposure and the sensitivity of a portfolio towards climate risks. Physical climate stress scenarios as well as climate transition stress scenarios are planned to be integrated in the market risk stress testing program. Equivalently, for illiquid alternative asset classes, sustainability risks will be integrated in the individual risk assessments performed on an investment level.
In September 2019, DWS joined the Coalition for Climate Resilient Investment (CCRI). The goal of the CCRI is to transform infrastructure investments by integrating climate risks into the decision-making process, driving a paradigm shift toward a more climate resilient global economy. The CCRI initiative, the first private-sector-led coalition, comprises companies from across the investment value chain with a total of 5 trillion US dollars of assets. It includes governments and multilateral organisations.
Deutsche Bank’s exposure
Deutsche Bank’s exposure to these industries is low as a proportion of its total loan book volume. The relative shares of each industry have fallen compared to year-end 2016 as the bank reduced its risk appetite thresholds. As of year-end 2019:
- Loan exposure to the oil and gas industry: €8.4 billion or the equivalent of 2% of overall loan volume, plus revocable and irrevocable lending commitments of €6.9 billion.
- Loan exposure to the utilities (electric power and gas) sector: €4.2 billion or 1% of overall loan volume, plus revocable and irrevocable lending commitments of €7.9 billion.
- Loan exposure to the steel, metals and mining sector: €4.0 billion or 1% of overall loan volume, plus revocable and irrevocable lending commitments of €4.4 billion. Exposure to coal mining groups is negligible since the bank has tightly managed and reduced its exposures in recent years. These loan exposures have fallen by 31% since year-end 2016.