Do capital markets fully integrate climate risks and opportunities?

New KPMG in Canada the report finds that the complexities, uncertainties and data gaps facing investors make it difficult for capital markets to deal effectively with climate change

TORONTO, March 10, 2022 /CNW/ – A new report from KPMG in Canada notes that mispricing climate-related impacts could make it more difficult for businesses and investors to manage climate risks, hamper efforts to transition to a low-carbon economy, and expose businesses and investors to the risk of disruptive new pricing.

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The report, Do asset prices fully reflect climate risks and opportunities? examines empirical evidence on the pricing of climate risks by capital markets; explores the opinions of senior investment executives; investigates underlying challenges in policy, time horizon and data availability; and highlights the guidance available to businesses and investors to address these challenges.

“While many investors, including from Canada large corporations, are making progress in effectively assessing climate risks and opportunities, the complexities, uncertainties and data gaps faced by investors and reporting issuers pose challenges for capital markets,” said Doron Telemnational leader, ESG with KPMG in Canada. “Currently, there is no generally accepted methodology for incorporating climate risks and opportunities into company valuations. Each investor conducts their own fundamental research or applies their own quantitative strategies.”

Additionally, investors also tend to underestimate the risks associated with chronic climate hazards such as sea level rise, as they may not fully materialize within traditional investment time horizons. But that ignores both the accelerating frequency and severity of acute weather-related events and the high likelihood that those risks will be priced into the market by the time stakes are sold, Telem adds.

The report highlights that as the transition to a low-carbon economy accelerates rapidly amid increasingly severe weather events, the question of whether markets are effectively pricing these risks is no longer theoretical. As the Bank of Canadathe risk that commodity-exporting countries like Canada could fall behind in the global race to reduce carbon emissions could in turn have a significant impact on gross domestic product (GDP) due to lower foreign demand and lower commodity prices emission-intensive.

A recent KPMG International survey of CEOs, CIOs and senior investment strategists around the world found that market participants had divergent views on whether, and to what extent, markets were pricing risks correctly. and opportunities. In fact, only one in seven respondents believe that stock markets fully reflect climate risks. That drops to just one in ten for alternative investments and one in twelve for bond prices.

According to survey respondents, the pricing of climate risks is hampered by slow and only partially effective policy actions by governments and financial regulators; the short-term bias of capital markets; and the absence of standardized information on companies’ climate risks and performance.

Yet despite the challenges, most (72%) of survey respondents believe that capital markets can or will begin to price in climate risks on a noticeable scale over the next three years. While many are already working towards more effective climate risk pricing within their organizations – with around half of survey respondents noting that they have already adopted a mature approach to climate risk pricing in their active portfolios and liabilities – more than one in five are only now beginning to raise awareness or assess options.

“Despite the wave of ‘net zero emissions’ commitments made in the run-up to COP 26there is often a lack of consistent and reliable data available on the climate risks and opportunities facing businesses,” says Telem. “More data is also needed on how these risks are mitigated and on the carbon emissions profiles of their wider value chain. .”

“The demand for companies to fill these gaps and improve reporting is intensifying with investors, lenders, insurers, major customers and regulators all seeking more detailed information and analysis.”

As accounting and industry organizations develop and adopt standardized approaches to guide companies in this area, companies are increasingly communicating according to the widely accepted framework developed by the Task Force on Climate-Related Financial Disclosures (TCFD). Recent guidance has been released by the Canadian A4S CFO Leadership Network for integrating climate change risks and opportunities into business valuations. This could include potential adjustments to cash flows, terminal values ​​and discount rates to reflect the impacts and uncertainties presented by transition risks and physical risks for businesses.

Another key opportunity for investors, the report notes, is the growing trend to invest in transitioning high-emitting companies and industries from “grey to green.” In addition to seeking financial returns in potentially undervalued sectors, these investments can have a significant positive impact on the climate. The risk is that preventing “grey” companies from accessing traditional sources of capital could further exacerbate climate problems by pushing companies into unregulated financing that will not require transparent disclosures or commitments to low carbon.

“It is important to recognize that governments, regulators and market players all have an important role to play in addressing these challenges,” Telem says. “Capital markets alone cannot effectively address climate risks and opportunities if government policies and existing securities legislation do not provide certainty to the regulatory environment and provide adequate incentives to the reallocation of capital towards a low-carbon economy.”

About KPMG Canada

KPMG LLP, a limited liability partnership, is a Canadian-owned and operated full-service audit, tax and advisory firm. For more than 150 years, our professionals have provided consulting, accounting, auditing and tax services to Canadians, inspiring trust, fostering change and driving innovation. Guided by our fundamental values integrity, excellence, courage, together, for the better, KPMG employs more than 10,000 people in more than 40 locations across Canada, serving private and public clients. KPMG is regularly rated one of from Canada best employers and one of the best places to work in the country.

The Firm is incorporated under the laws of Ontario and is a member of KPMG’s global organization of independent firms affiliated with KPMG International, a private English company limited by guarantee. Each KPMG firm is a legally distinct and separate entity and describes itself as such. For more information, see home.kpmg/ca

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