What we heard: Second Consultation on the Standardized Climate Scenario Exercise

Introduction

Background

Building resilience against climate-related risks requires Federally Regulated Financial Institutions (FRFIs) to address vulnerabilities in their business models, operations, and balance sheets. It entails forward-looking approaches that are holistic, integrated, and built on reliable empirical data and sound analyses.

To that end, the Office of the Superintendent of Financial Institutions (OSFI) developed a Standardized Climate Scenario Exercise (SCSE) to be completed by FRFIs by the end of 2024. The SCSE furthers robust climate risk management, which helps OSFI promote the adoption by FRFIs of policies and procedures designed to control and manage financial risks.

OSFI is working with the Autorité des marchés financiers (AMF), who is running the SCSE in parallel with their regulated financial institutions in Quebec. Through this collaboration, OSFI and the AMF have expanded the amount and type of financial institutions (FIs) submitting results for analysis.

Public consultation process – Part I

On October 16, 2023, OSFI published a draft of the SCSE Methodology and launched the first part of a two-part consultation process to support the refinement, effective implementation, and execution of the SCSE in 2024. Part I of the consultation ran until December 22, 2023. For further details, see What we heard: Consultations on draft Standardized Climate Scenario Exercise Methodology.

Public consultation process – Part II

On April 11, 2024, OSFI and the AMF published the updated draft SCSE Methodology, drafts of the SCSE Workbook and Instructions, and launched the second part of the consultation process, which ran until June 7, 2024. During Part II, OSFI and the AMF hosted a virtual information session that gave participants an opportunity to share their questions in advance via email, as well as live during the question-and-answer period.

SCSE Publication

OSFI has published this document as part of the final SCSE publication, which also includes final versions of the following documents:

Consultation Feedback

By the conclusion of Part II of the consultation process, OSFI and the AMF received eighteen unique comment submissions, mostly from FIs and the industry groups that represent them. The submissions included constructive recommendations, questions, and observations that covered two main themes:

  1. Helping FIs successfully complete the SCSE
  2. Ensuring OSFI and the AMF obtain informative and meaningful results

1. Helping FIs successfully complete the SCSE

Similarly to the first consultation, most submissions noted that completing the SCSE will require significant resources from FIs, and that some aspects of the SCSE will be more challenging than others. Specific recommendations for OSFI and the AMF included:

  • extending the timeline to complete the SCSE into spring 2025
  • providing further clarifications on technical details and issuing periodic Frequently Asked Questions (FAQ) documents
  • hosting technical information or practitioner sessions
  • reducing the scope of the exercise and allow for flexibility in certain areas

Response

OSFI and the AMF are mindful of the resources needed for FIs to complete the SCSE, especially given the nascency of climate risk measurement and climate scenario analysis. We heard similar feedback in Part I of the SCSE consultation. Based on that feedback, we made meaningful changes to the draft SCSE Methodology, such as introducing materiality thresholds, and explicitly allowing FIs to use simplifications and approximations to address assets that require multi-point geocoding for the physical risk module.

Regarding the specific recommendations we received for this consultation:

  • Timelines: OSFI and the AMF have made slight adjustments to the timelines for the SCSE. The SCSE is a foundational exercise, i.e., it is a first step in quantifying climate risks. To help FIs get an early start on the exercise, we finalized the industry sector, and regional sector mappings for the transition risk modules and the geographical scope for physical risk module, allowing FIs to begin classification and geographic scoping work. We also shared the hazard maps for physical risks over the summer.
  • Clarifications: OSFI and the AMF made updates to the SCSE Methodology and Instructions in the areas of the draft versions that were identified by FIs as unclear. We also circulated an FAQ document to FIs in July, and plan to circulate an updated FAQ document later in September.
  • Technical Information sessions: OSFI and the AMF hosted two technical information sessions during the summer. One covered flood risk and the other wildfire weather exposure assessments. We have scheduled a combined credit and market transition risk technical information session for September 16th.
  • Scope: We have adjusted the scope of the SCSE and allowed for more flexibility in certain areas, which may reduce the resources required to complete the SCSE for some institutions.

2. Ensuring OSFI and the AMF obtain informative and meaningful results

OSFI and the AMF received more comments and questions about interpreting the results of the SCSE in Part II of the consultation process. This indicated that many FIs are already working on the exercise. Some of the comments asked for clarifications to ensure that FIs would provide consistent results. This included requests for:

  • baseline and climate ECL formulas to ensure a consistent application of climate PD add-ons
  • precise definitions of exposure amounts for the physical risk module, especially for insurance exposures in scope
  • additional guidance on approximations

Other comments pertained to the alignment between the scope of the SCSE and the nature of the exercise, noting that misalignments may lead to results that are not particularly valuable for OSFI and the AMF. Specific comments included:

  • scope for the market risk module:
    • short positions should be included otherwise the results will overstate the climate risks
    • segregated funds and mutual funds should be excluded because climate transition risks do not directly impact financial market risks to the FI for assets under management
  • scope for the physical risk module - reinsurance:
    • direct insurers stated that reinsurance should be included, otherwise physical climate risks will be overstated
    • reinsurers recommended that OSFI and the AMF should collect aggregate information, as the granular nature of the SCSE does not align with their exposures

Response

OSFI and the AMF are appreciative that FIs have already started their work on the SCSE and used the second consultation to share insights.

Updates were made to the SCSE Methodology and SCSE Instructions to provide clarification. These types of comments were also addressed in the FAQ document and at technical information sessions.

Regarding comments about the alignment between the scope of certain SCSE modules and the nature of the exercise, we have updated the SCSE Methodology to state that:

  • short positions in common shares, corporate bonds, and preferred shares exposures that are in scope are included
  • segregated funds and mutual funds are excluded, with the exception of a question in the SCSE Questionnaire on segregated funds with guarantees

Additionally, we have clarified expectations on how to reflect reinsurance for direct insurers and adjusted the scope of the exercise reinsurers.

Date modified: