GovernanceFederal Reserve climate principles
The Federal Reserve’s draft climate-risk principles call on $100B+ banks to embed climate considerations into governance, risk management, data, and scenario analysis—mirroring OCC and FDIC expectations and signaling forthcoming supervisory focus.
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On the U.S. Federal Reserve Board released draft Principles for Climate-Related Financial Risk Management for Large Financial Institutions. The guidance, which aligns with similar principles issued by the Office of the Comptroller of the Currency (OCC) and Federal Deposit Insurance Corporation (FDIC), outlines supervisory expectations for banks with more than $100 billion in total assets. It covers governance, policies and procedures, strategic planning, risk management, scenario analysis, and data and reporting. Large bank holding companies, savings and loan holding companies, and U.S. intermediate holding companies of foreign banks should evaluate gaps across climate risk management frameworks and prepare for integration into standard supervisory examinations.
The principles emphasize that boards and senior management are responsible for managing climate-related financial risks—both physical risks from acute or chronic climate events and transition risks from policy, technology, and market shifts. Banks must incorporate climate considerations into existing risk categories (credit, market, liquidity, operational, legal/compliance, and other nonfinancial risks) and ensure risk management frameworks remain “safe and sound.” The Fed encourages feedback but signals that climate risk management will become part of routine supervision for large institutions.
Governance and board oversight
Boards should understand climate-related risks relevant to the bank’s risk profile, articulate risk appetite statements, and ensure management establishes policies, limits, and monitoring. Governance committees (risk, audit) should receive regular reporting on climate exposures, scenario analysis results, and progress toward risk mitigation. Boards should oversee integration of climate risk into strategic planning and capital planning processes, ensuring that climate considerations inform business lines, product development, and geographic expansion.
Senior management must allocate sufficient resources, define roles and responsibilities, and ensure expertise exists across risk management, finance, legal, and business units. Establish management-level committees that coordinate climate risk initiatives, monitor risk metrics, and escalate issues. Incorporate climate risk objectives into performance evaluations and incentive plans.
Policies, procedures, and risk management integration
Banks should embed climate considerations into risk management policies. Credit policies must address sectoral and geographic concentrations sensitive to climate risk, collateral valuation adjustments, and underwriting criteria for carbon-intensive borrowers. Market risk policies should consider climate-related shocks affecting asset prices, spreads, and liquidity. Operational risk management should evaluate climate impacts on facilities, third-party dependencies, and business continuity planning.
Risk identification processes should map exposures across portfolios, counterparties, and supply chains. Use heat maps to highlight high-risk sectors (energy, agriculture, real estate), geographies exposed to physical hazards (floods, wildfires), and counterparties reliant on carbon-intensive revenues. Integrate climate risk assessments into new product approval processes, stress testing, and internal capital adequacy assessments (ICAAPs). Ensure risk limits reflect climate considerations—e.g., concentration limits on lending to high-emission sectors or geographic limits in flood-prone regions.
Strategic planning and capital considerations
Climate risk should inform strategic planning, capital adequacy, and liquidity management. Banks should evaluate how climate scenarios affect business models, customer demand, and funding costs. Incorporate climate factors into capital planning, including scenario analysis to assess potential impacts on earnings, capital ratios, and balance sheet composition. Align strategic initiatives—such as financing renewable energy or adjusting mortgage underwriting—to risk appetite and regulatory expectations.
Consider interactions with other regulatory frameworks, including the Fed’s Full Capital Analysis and Review (CCAR), Dodd-Frank Act Stress Tests (DFAST), and resolution planning. Document assumptions, methodologies, and governance for incorporating climate risk into these processes.
Scenario analysis and stress testing
The principles encourage scenario analysis to explore how climate pathways affect risk exposures. Banks should develop capabilities to run multiple scenarios covering acute physical events (hurricanes, wildfires), chronic physical changes (sea-level rise, temperature increases), and transition pathways (rapid decarbonization, delayed policy action). Scenario design should consider relevant time horizons, incorporate macroeconomic variables, and reflect regional exposures. Use scenarios to assess credit losses, market valuation impacts, operational disruptions, and liquidity pressures.
Banks should establish governance over scenario analysis, including model risk management, validation, and documentation. Scenario outputs should feed into risk appetite discussions, strategic planning, and capital planning. Coordinate with industry initiatives (for example, Network for Greening the Financial System scenarios) and monitor regulatory developments such as the Fed’s pilot climate scenario analysis exercises.
Data, metrics, and reporting
Effective climate risk management requires granular data on exposures, counterparties, and physical hazards. Banks should inventory data sources, identify gaps, and develop plans to improve data quality—potentially through third-party vendors, geospatial analytics, or internal data collection. Metrics may include financed emissions, portfolio alignment with climate targets, exposure to high-risk geographies, and concentration in carbon-intensive sectors. Implement data governance frameworks, assign data owners, and ensure data lineage documentation.
Reporting should provide decision-makers with timely, accurate insights. Develop dashboards for boards and senior management summarizing key climate risk indicators, scenario results, and mitigation progress. Align reporting with public disclosures (for example, TCFD-aligned reports, ESG reporting) to ensure consistency. Ensure internal audit and compliance teams can access data for assurance purposes.
Risk mitigation, controls, and escalation
Banks must implement controls to manage identified risks. Potential actions include adjusting underwriting standards, diversifying portfolios, enhancing collateral requirements, or setting sectoral exposure limits. Operational controls may involve upgrading facilities to withstand climate hazards, updating business continuity plans, and ensuring third-party service providers address climate resilience. Establish escalation procedures when risk metrics breach thresholds, and document management responses.
Coordinate climate risk management with existing programs—such as credit portfolio management, operational resilience, and vendor risk management—to avoid silos. Ensure alignment with regulatory requirements on third-party risk (Fed SR 13-19), model risk (SR 11-7), and liquidity risk management.
Culture, training, and stakeholder engagement
Cultivating a climate-aware culture is critical. Provide training for boards, executives, and risk personnel on climate science, regulatory expectations, and emerging good practices. Embed climate considerations into leadership development and talent strategies. Engage with teams—investors, customers, communities—to communicate climate risk approaches and gather feedback.
Monitor industry associations, regulatory guidance, and peer practices. Participate in collaborations such as the Partnership for Carbon Accounting Financials (PCAF) or Climate Financial Risk Forum to share insights and benchmarks.
Outcome testing and supervisory readiness
Prepare for supervisory examinations that assess climate risk management. Conduct internal reviews of governance, policies, data, and scenario analysis capabilities. Internal audit should evaluate the design and effectiveness of climate risk frameworks, including data quality, model governance, and control setup. Develop remediation plans for gaps and track progress.
Maintain documentation demonstrating compliance with the principles: board minutes, risk appetite statements, policy revisions, scenario methodologies, and reporting templates. Ensure the bank can explain how climate risk integrates with safety and soundness standards and supports overall risk management.
By early aligning with the Fed’s draft principles—harmonized with OCC and FDIC expectations—large financial institutions can strengthen resilience to climate-related financial risks and prepare for supervisory scrutiny.
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Documentation
- Federal Reserve Board: Principles for Climate-Related Financial Risk Management for Large Financial Institutions — Board of Governors of the Federal Reserve System
- Federal Reserve Board seeks comment on draft principles addressing climate-related financial risks — Board of Governors of the Federal Reserve System
- ISO 37000:2021 — Governance of Organizations — International Organization for Standardization
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