SPI Journal, Autumn 2022
It’s time to stop bankrolling deforestation

Nature-related stress tests are possible today

Financial institutions already have the tools they need to quantify nature-related opportunities and risks, write Robin Smale, partner, and Charlie Dixon, solution manager, McKinsey & Company.

It took decades for the world to understand, accept and begin acting in a coordinated fashion to address the risks of climate change. By contrast, risks associated with nature loss have been less understood and discussed.

Central banks in the Netherlands and France have been the first regulators to publish nature-related risk assessments in 2020 and 2021 respectively. [i] These studies estimated the share of assets held in the French and Dutch financial systems considered at high risk from nature loss. Shortly after, the Network for Greening the Financial System formed a new global taskforce with a mandate to ‘mainstream the consideration of nature-related risks across the NGFS.’ [ii]

Lack of data and practical methods are two of the most commonly quoted obstacles to assessing nature-related risks. [iii] The Taskforce on Nature-related Financial Disclosures is tackling this by establishing a ‘data catalyst’, a working group of data providers with the goal of accelerating the global development of, and access to, nature-related data, analytics and tools. [iv]

Yet even with the data and tools available today, it is possible to assess nature-related opportunities and risks. Earlier this year, Vivid Economics by McKinsey and FSD Africa together applied, for the first time, a quantitative stress-testing framework for nature. [v] The assessment quantifies how global action to reverse nature loss could change the value of the portfolios of several African commercial financial institutions and six African financial systems.

The United Nations Climate Change High-Level Champions also recently published an integrated climate-nature stress test of 40 of the world’s largest global food companies. [vi] Both studies offer examples of how the TNFD draft framework can be applied to financial portfolios and company-level financial performance. They also both show that if consumers and policy-makers take action to reverse nature loss, financial portfolios could see significant shifts in value. [vii][viii]

In Africa, the equity portfolios considered could shift by +2% to -5% of value by 2030 (Figure 1), and loan books by +0.3% to -0.6%. Gains are likely to be driven by exposure to high-growth agricultural commodities which can benefit from the expansion of alternative proteins (e.g. sugarcane and pulses). These can have a lower impact on nature than traditional proteins. Losses are likely to be driven by exposure to slower-growth agricultural commodities linked to pastoral farming (e.g. corn and tropical roots) and exposure to deforestation-linked minerals.

Financial impacts could be more significant at the individual company-level, particularly in agriculture and extractives. The global study shows that some of the world’s largest global food supply firms could lose up to 26% of their value by 2030, with a sector average impact of over 7% (Figure 2). [ix][x] This is equivalent to $150bn in losses to investors. The Africa study demonstrates that nature-related risks could reduce profits in agriculture and deforestation-linked extractives on the continent by 20% and 15% respectively in 2050. [xi]

Comparing this with climate research and analysis by Vivid Economics by McKinsey and Planetrics, in a 2050 net-zero scenario, climate-related risks could reduce profits in 2050 in manufacturing, chemicals and extractives by roughly 10%, 15% and 25%, respectively. [xii] This demonstrates that nature-related risks to assets in the agriculture, food and extractives sectors could be of the same scale as climate-related risks in manufacturing, chemicals and extractives.

These assessments demonstrate that many of the frameworks, approaches and scenarios that were developed for climate can be adapted to nature, and that there is sufficient data available today to quantify exposure to both nature-related risks and opportunities. Regulators and financial institutions can build the scope and detail of their nature-related assessments over time as understanding, data and capacity improve.

[i] Banque de France, ‘A “Silent Spring” for the Financial System? Exploring Biodiversity-Related Financial Risks in France’ (2021); De Nederlandsche Bank, ‘Indebted to nature: Exploring biodiversity risks for the Dutch financial sector’ (2020)

[ii] NGFS, ‘Task force “Biodiversity Loss and Nature-related Risks”’

[iii] TNFD, ‘A Landscape Assessment of Nature-related Data and Analytics Availability’ (2022)

[iv] TNFD, ‘TNFD launches Nature-related Data Catalyst’ (2022)

[v] Vivid Economics by McKinsey and FSD Africa, ‘Nature and financial institutions in Africa: A first assessment of opportunities and risks’ (2022)

[vi] UN Climate Change High-Level Champions, ‘Assessing the financial impact of the land use transition on the food and agriculture sector’ (2022)

[vii] Consumer and policy action could include diet shifts, food waste habits, consumption decisions based on nature impacts and policy and regulatory instruments such as deforestation deterrents and financial penalties for pollution.

[viii] TNFD framework

[ix] Note the Africa and global studies use different scenarios of potential future consumer and policy action to reverse climate change and nature loss and so care should be taken in comparing the results.

[x] UN Climate Change High-Level Champions

[xi] Vivid Economics by McKinsey and FSD Africa

[xii] Based on research and analysis by Vivid Economics by McKinsey and Planetrics, drawing on climate risk assessment modelling framework used in various reports such as Santander, ‘Climate finance report’ (2020); Vivid Economics by McKinsey, ‘Physical Risk Assessment in TCFD Reporting’ (2021); and Climate Financial Risk Forum, ‘Climate financial risk forum guide 2021: Scenario analysis’ (2021).