Disorderly climate transition risks 6.8 percent global equity correction
A delayed and uncoordinated climate transition could trigger substantial financial market losses, with global equities facing an average 6.8 percent correction. The Banque de France study indicates fossil fuel equities could see losses up to 24 percent, while the French financial sector appears capable of absorbing the risk.
Quantifying global market vulnerabilities
The Banque de France (BDF) has developed a new forward-looking indicator to quantify climate transition risk for the French financial sector.
This indicator, based on Network of Central Banks and Supervisors for Greening the Financial System (NGFS) scenarios, projects the impact of a low-carbon transition on corporate revenue and financial asset values.
The study specifically considers a "delayed transition" scenario, where abrupt and uncoordinated measures are taken late to limit warming below 2°C.
Under this scenario, global equities face an average correction of 6.8 percent, equating to an estimated loss of EUR 2.9 trillion in market capitalisation by 2045.
Corporate bonds show a more limited average impairment of 1.5 percent (EUR 69 billion), while sovereign bonds could see an average loss of 0.25 percent.
The BDF emphasizes that these losses could materialize rapidly if investor expectations adjust suddenly.
Navigating policy uncertainty
The study highlights significant uncertainty in the future direction of climate policy, fueled by mixed political signals such as US federal administration backtracking and EU environmental regulation simplification.
This lack of clear visibility complicates investor efforts to anticipate the future framework, increasing the cost of capital for green projects and potentially hindering necessary low-carbon transition investments.
The BDF's indicator focuses solely on transition risk and its impact on financial markets, excluding credit risk from bank loan portfolios and underwriting risk in the insurance sector.
Despite these unmodelled factors, the French financial sector, comprising banks, insurers, and investment funds, appears capable of absorbing the estimated transition risk, largely due to diversified portfolios.
A necessary, yet incomplete picture
This Banque de France study provides a crucial quantitative framework for assessing climate transition risks, offering valuable insights into potential market corrections.
However, its exclusion of aggravating factors like physical risks, financial shock amplification, and physical capital adaptation difficulties limits its comprehensive scope.
While a vital step, the analysis thus presents a conservative view, potentially underestimating the full spectrum of financial vulnerabilities in a truly disorderly transition.