FINMA circular on nature-related financial risks

The new circular for banks and insurance companies expands the existing climate-related financial risk obligations towards a holistic nature-related perspective. It’s based on the current recommendations of the international standard-setters, in particular the Basel Committee on Banking Supervision (BCBS) and the International Association of Insurance Supervisors (IAIS), as well as some of the recommendations of the Network for Greening the Financial System (NGFS).

The circular has implications if you’re a bank or insurance company. What are they?

Definition of nature-related financial risks

The circular defines nature-related financial risks as the short-, medium- and long-term risks of direct or indirect financial losses or other negative effects on the institution resulting from its exposure to natural phenomena. Natural risks are therefore risk drivers that can be reflected in the institution’s existing risk types as nature-related financial risks through various transmission channels, in particular credit risks (including counterparty credit risks), market risks, liquidity risks, operational risks (including legal and compliance risks), insurance risks, business risks and reputational risks.

Nature-related risk governance requirements

The circular requires that the institution define and document all the tasks related to nature-related risk governance as part of the competencies and responsibilities of the board of directors and its committees, the executive board, the independent control bodies and control functions, the internal audit function and the other relevant business or organisational units, in accordance with their roles under the FINMA guidelines.

Scenario analysis/stress testing

Institutions are required to do a materiality assessment of the potential impact on financial-related risks stemming from nature-related risks. This assessment must be performed using different scenarios.

Timeline

The timeline is ambitious, so it’s important to start assessing the implications for your organisation.

What?
The circular concerns the risks of direct or indirect financial losses and negative effects from an institution’s exposure to nature-related risks.

Where?
The circular focuses on risk drivers that manifest across various existing risk categories within institutions, concerning Swiss companies with reporting obligations under the CO2 Act.

Who?
The circular is addressed to banks and insurance companies (small banks and insurers have a transition period until 2027).

How?
The requirements are principle-based, proportional and technology-neutral, focusing on the areas of governance and risk management.

Why?
The circular is designed to improve the management of nature-related financial risks and strengthen resilience.

Given the ambitious timeline, it’s important to start addressing a number of questions right now:

• Are nature-related risks part of our strategic and risk discussions?
• How are nature-related risks currently embedded in our risk and compliance governance, including our key processes, policies, metrics and disclosure?
• Are nature-related risks part of the board and C-suite agenda along with other ESG risks, especially the audit and/or risk committee?
• How do you distinguish between climate scenarios and nature-related scenarios and consider the second-round effect and feedback loops?

Our solution
Our approach to helping you comply with the new circular has three basic components: risk governance integration, scenario analysis and stress testing, and an express and affordable health check.

Risk governance
We help you leverage your existing risk governance to embed nature-related risks in your entire strategic and risk governance value chain. We also make sure all lines of defence, including the business, control functions and audit, are involved. The aim is to be regulatory-compliant and disclosure-ready.

Scenario analysis and stress testing
Building on the lessons on climate scenarios, we help you define nature-related scenarios and second-round effects. We do physical risk and transition risk assessments on the contribution to nature loss, on potential exposure to ecosystem service disruptions due to climate change and estimates due to ecosystem collapse.

Express & affordable health check
We offer an independent, time-efficient assessment of your health based on your specific documentation and organisational set-up, giving you the opportunity to gain confidence with the new provisions. We also offer a dedicated workshop with your key decisionmakers.

The new FINMA circular on nature-related financial risks could have significant implications for banks and insurance companies, and the tight timeline means it’s wise to start thinking about these matters now. If you think you might be affected, contact us and click here for a downloadable version.