What’s next for financial institutions and nature-related risk?

COP15 in Montreal brought 2022 to a close with a new global deal for nature and governments committing to protect 30% of the planet’s natural habitats by 2030. A 2050 vision of a world living in harmony with nature where “biodiversity is valued, conserved, restored and wisely used, maintaining ecosystem services, sustaining a healthy planet and delivering benefits essential for all people” was also adopted.

More than a decade’s work has led to this point and over the past two years in particular, we have seen nature loss rightfully recognised alongside climate change as intertwined global crises.

Nature loss poses a threat on many levels. For business and finance it translates into significant financial risks, including physical, transition and systemic risks. Financial institutions are uniquely placed to influence companies to shift their practices towards becoming nature-positive but the finance sector is just at the start of its journey when it comes to assessing and addressing its dependencies and impacts on nature.

The Kunming-Montreal Global Biodiversity Framework agreed at COP15 established long-term goals and interim targets to guide countries’ biodiversity strategies, as well as guidance for implementation. Financial institutions have a key role to play throughout the 2050 vision for “living in harmony with nature”, and together with the Taskforce on Nature-related Financial Disclosures (TNFD), we have another pivotal piece in the global architecture that demonstrates there is only one way for financial institutions to move in 2023, and that is in the direction of change.

In the second half of 2022, we also saw political agreement reached on a new regulation in the EU following negotiations between the Council, Parliament and the Commission, requiring due diligence on deforestation by companies importing or exporting forest risk commodities. While for now this is only applicable to companies, there will be a review after a two-year period to determine if and how the law should be adapted or extended, specifically considering the inclusion of financial institutions.

So what help is available for financial institutions looking to understand their nature-related risks?

The Exploring Natural Capital Opportunities, Risks and Exposure (ENCORE) tool, jointly developed by Global Canopy, UNEP-FI and UNEP-WCMC, is a critical entry point on the nature agenda for major market players. ENCORE is a tool that financial institutions can use to understand their dependencies and impacts on nature for different economic sectors, crucial for their strategic planning and reporting. ENCORE allows users to understand how businesses across all sectors of the economy potentially depend and impact on nature, and how these potential dependencies and impacts might represent a business risk. In light of Target 15 of the Kunming-Montreal Global Biodiversity Framework (GBF), that understanding is critical.

Target 15 of the GBF states that businesses and financial institutions should be “encouraged and enabled to regularly monitor, assess, and transparently disclose their risks, dependencies and impacts on biodiversity including with requirements for all large as well as transnational companies and financial institutions along their operations, supply and value chains and portfolios.”

The ENCORE biodiversity module, a component of the ENCORE tool, specifically looks at the mining and agriculture sectors with a focus on potential alignment with global biodiversity goals.

By using the ENCORE biodiversity module, we know for example, that in the agriculture sector 60% of the global potential for reducing species extinction risk falls within cropland areas.

The first step for financial institutions is to recognise that nature, and its destruction, poses a significant risk to their business. The World Economic Forum estimates over half of global GDP is moderately or highly dependent on nature and its services. The Dutch Central Bank found that 36 percent of the portfolio values of the Dutch financial institutions were exposed to high or very high nature-related risks. And yet, Global Canopy’s Deforestation Action Tracker – launched in November conducted a baseline review of over 500 financial institutions and found that only 17% publicly recognised the risks posed to their business by deforestation.

“ENCORE supports the first phase of business action” by setting out how economic sectors depend and impact on nature, said Corli Pretorius, the deputy director of UNEP-WCMC at COP15

Earlier this month, the World Economic Forum’s 2023 Global Risks Report offered a stark warning that over the next two years environmental risks make up five of the top ten recognised risks, but it also said that “biodiversity loss and ecosystem collapse” don’t have to be our fate.

All industries are exposed and must increase their awareness and take action; even those with little exposure to direct risks are indirectly exposed through their supply chains. Collaboration between biodiversity data holders, businesses, financial institutions and holders of company location and pressure data is essential.

In order to thrive in the short, medium and long term, the entire financial and corporate system needs to align financial flows and business models with the needs of nature and the Kunming-Montreal Global Biodiversity Framework. By implementing Target 15 of the GBF and using the upcoming TNFD to assess nature-related change, we can reduce and reverse our impacts on nature at the scale and speed that science tells us we need. And, with underlined global impetus and vital tools like ENCORE ready to hand, we hope and expect 2023 to be the year of rapid and accelerated action.