Biodiversity loss poses one of the biggest risks to financial institutions. However, investors are not aware or have a poor understanding of its impacts. A Future of Sustainable Data Alliance (FoSDA) webinar highlighted biodiversity risks and discussed how they can be better integrated into investment portfolios.
- The World Economic Forum’s 2020 Global Risks Report ranked biodiversity loss as one of the five top risks of the next decade. However, few investors fully understand or are aware of its potential impact on investment portfolios.
- Experts at a FoSDA webinar considered the current and future states of biodiversity risk and analyzed future policy landscape and the industry response.
- In the face of COVID-19, what biodiversity lessons can be learnt for the future?
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Much like climate change a few years ago, biodiversity-related risk is a liability that is currently poorly understood by investors and is omitted from most financial institutions’ balance sheets.
It is widely accepted that climate change already has a material impact on investment performance for some sectors and firms, and poses a systemic risk to financial stability.
However, very few financial institutions manage, understand or are even aware of the risks concerning biodiversity.
More complex to measure and spatially differentiated, biodiversity or nature-related risks are systematically mispriced, leading to poor allocation of large pools of capital — especially in land-based sectors — and exposure for the financial sector.
The crisis in biodiversity
Nature has suffered a pandemic-like crisis for over a century.
Human activity has accelerated the rate at which plant and animal species are becoming extinct by a factor of over 100, and paved the way for a growing climate crisis.1 This activity threatens about 25 percent of assessed plant and animal groups, with one million species facing extinction, many within decades.
The scale of change to the natural environment is staggering; 75 percent of global land surface is significantly altered; 66 percent of oceans are experiencing cumulative deterioration; and over 85 percent of wetlands have been lost.
Figure 1: Species extinctions since 1500
WEF 2020 Global Risks Report
Almost three-quarters of the market capitalization of the FTSE 100 was found to be associated with production processes highly dependent on nature.2
This was recognized in the World Economic Forum’s 2020 Global Risks Report (GRR), which ranks biodiversity loss and ecosystem collapse as one of the top five risks in terms of likelihood and impact in the coming 10 years.
The impact and the risk are not specific to agriculture and food systems. Sectors across the entire economy are highly exposed to nature-related risks, primarily through their supply chains.
While the impacts and risks to primary industries that rely on the extraction of natural resources is clear, risks to secondary and tertiary industries are more complex.
Taking six industries as an example — chemicals and materials; aviation, travel and tourism; real estate; mining and metals; supply chain and transport; retail, consumer goods and lifestyle — over 50 percent of the gross added value (GVA) of their supply chains is highly or moderately dependent on, or has an impact on nature.3
Increased incidence of pandemics
Compounding this, COVID-19 demonstrates the staggering scale of nature-related systemic crises. A growing body of evidence suggests that the destruction of nature is increasing the incidence of pandemics related to zoonotic diseases.4
With economic damage set to surpass the 2008 global financial crisis, even small changes to tail-end risks will result in tremendous shifts in the value at risk across the financial system.
Managing risk caused by biodiversity loss
Finally, global policy on biodiversity is expected to tighten, with countries holding themselves accountable to targets and deploying incentives which expose corporations to transition risk.
The outcome of next year’s UN Convention on Biological Diversity (the biodiversity equivalent of the UNFCCC) will be instrumental in setting this ambition.
In parallel, engaged jurisdictions such as the EU are already moving ahead on biodiversity. As governments across the world integrate national targets into domestic policy, environmentally intensive assets may become stranded, risking insolvency.
The financial community has or is likely to have duties to understand and manage these impacts and risks, and disclosure may become mandatory in the future.
Laws and regulation governing environmental liabilities are constantly evolving. As data and technology enables transparency, governments and organizations will have stronger grounds to pursue claims.
The emerging Taskforce for Nature-related Finance Disclosures (TNFD) will create guidelines specific for the financial sector, building pressure on financial institutions to incorporate nature-related risks into internal risk management processes.
Those who act decisively now may not only reduce compliance costs in the future, but also stand to capitalize on new investor demands for environmental resilience.
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Biodiversity-related financial risks
In January 2020, Refinitiv spearheaded the formation of a new multi-member alliance through the launch of the Future of Sustainable Data Alliance (FoSDA) with the World Economic Forum in Davos.
This collaborative body of global influencers will focus on the fact that investors actually need to confidently invest more in sustainable economic activities. It will also aim to accurately inform and increase capital raising and allocation at the scale needed to tackle global societies’ environmental and social challenges.
The FoSDA webinar Biodiversity loss: Why your portfolio is already at risk introduced biodiversity or nature-related financial risks. Having brought together experts from the finance community, it covered (i) the current state of biodiversity; (ii) channels of nature-related risk; (iii) the future evolution of the policy landscape; and (iv) the emerging industry response.
The webinar also acted as the launchpad for a working group of FoSDA members to anticipate future challenges.
Resources
1. IPBES (2019): Summary for policymakers of the global assessment report on biodiversity and ecosystem services.
2. Natural Capital Finance Alliance (2018): Exploring Natural Capital Opportunities, Risks and Exposure: A practical guide for financial institutions
3. World Economic Forum (2020): Nature Risk Rising: Why the Crisis Engulfing Nature Matters for Business and the Economy
4. Johnson, C. K. et al. (2020): Global shifts in mammalian population trends reveal key predictors of virus spillover risk’; Jones, K. E. et al. (2008): Global trends in emerging infectious diseases; Olivero, J. et al. (2017): Recent loss of closed forests is associated with Ebola virus disease outbreaks’
