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Climate-related financial disclosures could distort markets, says new report

Recommendations for a framework for companies to voluntarily disclose climate-related financial risks in public financial filings have been criticised in a report which claims such measures are not suited to climate risk and could distort markets.

The Financial Stability Board’s (FSB) Task Force for Climate-related Financial Disclosures (TCFD) published a report in December 2016 that set out voluntary, consistent disclosure recommendations for use by companies in providing information about the financial risks companies face from climate change.

It called for disclosures about the way firms with public debt or equity consider the impact of climate change as part of their governance, risk management and strategy and sets out metrics and scenarios that firms should consider disclosing.

However, IHS Markit has said that while some elements could be helpful to investors in understanding how companies comprehend and manage potential risks related to climate change, several of the recommendations could have damaging consequences.

The report, aimed at the effects on the oil and gas sector, claims disclosing information on climate-related risks as part of required public financial filings could lead to investors downgrading others which may have comparable financial impacts but are not subject to specific disclosure frameworks.

Antonia Bullard, IHS Markit vice president for energy-wide perspectives, said: “Singling out one type of risk for separate treatment would prevent financial markets from accurately assessing, comparing and pricing all risks and opportunities. That would undermine, not support, the goal of improving capital allocation decisions and market functioning.”

IHS Markit goes on suggest climate risks are not suited to typical drivers, meaning normal metrics for financial risk and opportunity may not apply. In the case of carbon emissions, these may fall as a result of lower production rather than as a result of improved emissions management. This would have a much greater financial impact across a business and would require different action as a result.

“There is absolutely no consensus on the methodologies and metrics that could translate company-level climate-related metrics into measures of systemic risk,” Bullard said.

The report adds that the TCFD’s recommendation of disclosure of climate-related opportunities, such as investment in low carbon technologies, would imply a positive financial outcome despite no guarantees.

It claims that on the contrary, some “clean energy” investments have high financial risk and some of the recommended disclosures could lead investors to misprice assets and increase their financial risk.

This is also true of including financial implications of long-term scenario analysis in public filings, which according to IHS Markit could mislead investors about the certainty of these outcomes and would “distort markets, not enhance them”.

“Disclosing financial implications from scenarios created under different conditions cannot provide comparable information for pricing financial assets and risks,” the report states.

Finally, it concludes that disclosures of this type such as ‘indicative costs of supply for current and future projects’, would constitute confidential information and could undermine companies’ competitive positions and harm existing shareholders.

Daniel Yergin, IHS Markit vice chairman and a co-author of the report, concluded: “The TCFD recommendations extend beyond the scope of investor needs and enter the realm of climate policy. Climate policy is best designed and implemented by government agencies with the requisite mandates and expertise, not financial regulators.”

Despite the criticism levelled at the TFCD recommendations, work is likely to continue on building a case for such disclosures which FSB chair and governor of the Bank of England, Mark Carney, says is “essential” to the emergence of a market-based solution to climate change.

Following a consultation period earlier this year, a final draft of the proposals is to be presented to G20 leaders ahead of the next G20 summit in July.