Comment Text:
Christopher Kirkpatrick
Secretary of the Commission
Commodities Futures Trading Commission
Three Lafayette Center
1155 21st Street NW
Washington, DC 20581
October 7. 2022
Request for Information on Climate-Related Financial Risks
Dear Mr. Kirkpatrick:
E3G is an independent climate change think tank with a global outlook. We work on the frontier of the climate landscape, tackling the barriers and advancing the solutions to a safe climate. Our goal is to translate climate politics, economics and policies into action. E3g builds broad-based coalitions to deliver a safe climate, working closely with like-minded partners in government, politics, civil society, science, the media, public interest foundations and elsewhere to leverage change. More information is available at www.e3g.org.
We applaud the Commodities Futures’ Trading Commission’s (CFTC’s) request for comment on climate-related financial risk (RFI). It is in line with the CFTC’s thoughtful leadership on climate change, illustrated by the CFTC’s 2020 Climate-Related Market Risk Subcommittee, Market Risk Advisory Committee report, the CFTC Roundtable on Voluntary Carbon Markets this summer, and the recent decision to reconstitute the Climate-related Market Risk Subcommittee.
Implementing the suggestions below will improve the U.S.’s and the global financial system’s resilience to climate change. It will help limit global warming to 1.5 degrees C and promote the achievement of net zero emissions by 2050. Economic transformation and transition to net zero will be advanced by ensuring that the financial regulatory system better reflects the economic costs and financial risks of climate change; and ensure the financial system is positioned to leverage climate change mitigation opportunities. Work should be accelerated, given the recent passage of the Inflation Reduction Act (IRA) to expedite the U.S. transition to net zero.
We request that the CFTC rapidly and fully:
Adopt mandatory disclosure and risk management regulatory requirements.
Mandatory disclosures coupled with enhanced mandatory risk management are among most effective tools that financial regulators can use in helping the financial system adjust to climate change, including for impacts arising from a variety of scenarios. Mandatory transition plan disclosures and Scope 3 material disclosures. We note the United Kingdom’s commitment to require listed companies and financial firms to publish climate transition plans. When aggregated, such plans can usefully inform development of micro and macroprudential policies.
Mandatory risk management rules ensure that financial market participants disclose identify, manage, and mitigate climate risks. Mandatory risk management improves systemic risk surveillance, and can stimulate the development of macro-prudential rules that address systemic risk. Robust mandated disclosures and risk mitigation techniques will translate into improved micro-level perspectives on transition: physical and liability exposures of individual entities that can be combined with macro-level analysis of the impact on the financial system of accelerating climate change to systemic risk surveillance (e.g., such as when an institution enables an economic activity that has a negative impact on the climate). In considering mandatory capital and liquidity requirements, the CFTC should ensure that they cover potential future losses for the financing of fossil fuels.
These tools are especially important with respect to the CFTC’s remit. Commodity market derivatives products are directly impacted by climate change and are increasingly providing mechanisms for climate risk hedging. The CFTC could lead by example by publishing its own clear and detailed transition plan. This is undoubtedly challenging since climate-related risks are forward-looking, non-linear, and highly uncertain; data challenges are very steep – but “…it is far often better to measure something imperfectly than ignore it completely, particularly when this helps guide investor decision…” The need for mandatory disclosures to reduce information asymmetries, coupled with strong risk management tools, were hard lessons learned from the financial crises in 2008; but they were useful in addressing the financial and systemic risks during the COVID crises, and are fit for purpose for addressing climate change.
Climate change is global; the CFTC should intensify cooperation with other authorities in the U.S. and internationally, including on carbon markets. We support the CFTC’s continued coordination with other U.S. government agencies and department to enable a ‘whole of government’ approach to climate change, including implementation of FSOC’s 2021 report. We note that CFTC’s June 2, 2022, Roundtable on Voluntary Carbon Markets included representatives from the White House’s Office of Science and Technology Policy and the Departments of the Treasury, State, Transportation and Agriculture attended and FSOC’s recently announced Climate Risk Advisory Committee (CFRAC) also includes a broad range of stakeholders, and the EPA as an observer. The CFTC should replicate this type of membership in their newly reconstituted Market Risk Committee’s Climate-risk subcommittee. This could also include early engagement and access to the Office of Financial Research’s (OFR) new climate data hub and analytics pilot program.
The CFTC should strive to take internationally aligned approaches towards the development and implementation of mandatory requirements. This should be a priority given the global systemic risk dimensions of climate change. E3G and other civil society organizations seek holistic, mandatory rules to ensure that globally active market participants, including registered entities, registrants, banks and insurers, identify, manage and mitigate climate-related financial risks. The CFTC is in a strong position to lead on the development of robust, aligned standards through its work in the International Organization of Securities Commissions (IOSCO). The CFTC should insist on strong international collaboration on climate disclosures, consideration of appropriate capital treatments, and development of financial stability climate tools. Moreover, the CFTC should take into account international alignment on high quality reporting requirements and other standards for multinational enterprises Examples include: work underway in the International Sustainability Standards (ISSB) Board; Financial Stability Board (FSB); the Basel Committee on Banking Supervision (BCBS); and Network for Greening of the Financial System (NGFS), including becoming a member). Heightened CFTC engagement on international alignment on carbon market developments could be especially critical, given the role that commodities and commodities derivatives play in the energy sector.
Continue to assess approaches to improving carbon markets.
Since the CFTC already has jurisdiction over carbon offset derivatives contracts traded on CFTC regulated exchanges, we urge the CFTC to continue to explore ways that carbon markets could be improved and potentially serve as effective mechanisms for emission reduction, and a fair and just transition. As noted, the CFTC roundtable this July, was is a “very intentional first step towards increasing U.S. participation in international cooperative efforts.” The CFTC should take into account work underway in IOSCO to study carbon markets from the perspective of financial regulation, and seek to take into account international alignment on standards to avoid regulatory fragmentation and/or the potential build-up of systemic risks due to regulatory arbitrage. The Integrity Council for the Voluntary Carbon Market is setting standards for the supply side of carbon credit projects, whilst the Voluntary Carbon Markets Initiative is setting standards for the demand-side – for the use and public claims of carbon credits by companies and other non-state actors.
Seek additional resources to accomplish the above suggestions. Priority should be given to determining what existing resources might be available under the IRA, but additional Congressional budget requests will likely be needed.
We also recognize that improving data quality, data reliability and filling data gaps is critical to the success of these efforts.
RESPONSES TO RFI QUESTIONS
DATA
Question 1: What types of data would help the Commission evaluate the climate- related financial risk exposures of registered entities, registrants, and other participants in the derivative markets that the Commission oversees? Are there data sources that registered entities, registrants, and/or other market participants currently use to understand and/or assess climate-related financial risk? What steps should the Commission consider in order to have better access to consistent and reliable data to assess climate-related financial risks?
Improvements in data quality and reliability, as well as broad public access to data, are critical to combatting climate change. Financial supervisors are trying to close data gaps and improve data needed for: climate risk management (including for scenario analysis and stress testing) and addressing investors’ demands for more reliable, consistent and comparable ‘decision useful’ climate change related data.
E3G urges the CFTC, at a minimum, to benchmark any mandatory disclosure requirements with respect to work underway in the ISSB, building off the efforts of the Task Force for Financial Disclosure (TCFD) framework to o improve international comparability. This is the approach followed by the SEC in its March 2022 proposal. (E3G supports Scope 3 information be included in SEC reporting requirements.)
Also, developing forward looking metrics and common standards for such metrics is critical to ensure that risks are properly reflected and managed, avoid misrepresentations of mitigating actions, and the heterogeneity of climate-related claims. Use of forward looking data, such as quantifying risk of stranded assets and data arising from disclosures that are needed for transition planning, are also important. The CFTC should play an important role in the development of climate data tools, including for access to the new FSOC/OFR Data Hub. In the meantime, the CFTC can help steer IOSCO’s role in development of the new Net-Zero Data Public Utility. Finally, the CFTC can also serve as a resource for investor facing data issues noted in IOSCO’s recent report.
Question 3: What steps should the Commission consider to better inform the public of its efforts to assess and address climate-related financial risks? What information could the Commission publish that would be useful in this regard? What steps should the Commission consider making climate- related data more available to registrants, registered entities, other market participants, and/or the public (as appropriate and subject to any applicable data confidentiality requirements) in order to help understand and/or manage climate- related financial risk?
First and foremost, the CFTC, and the entities it oversees, should publish transition plans. Actions taken in the short to medium term by the private sector will determine the size and scale of future risks, with transition plans enabling entities to set out the actions they are taking to respond to climate-related risks and opportunities. This would enhance the public’s ability to assess and address climate-related financial risks, as well as risk management approaches. It would bolster the CFTC’s ability to inspect and/or oversee risk management practices. We urge the CFTC to consider the forth coming Transition Plan Taskforce’s (TPT) Disclosure Framework. The CFTC can also draw upon IOSCO’s 2022 Investor Education Report on retail investor education in sustainable finance markets to better inform the public about climate related financial risks and regulatory steps take to address these risks.
SCENARIO ANALYSIS AND STRESS TESTING
The importance of scenario analysis and stress testing to address financial stability risks related to climate change cannot be understated. The development and disclosure of mandatory transition plans can contribute substantially to this area.
Question 4: Are there any climate forecasts, scenarios, or other data tools that would be useful to the Commission, registered entities, and/or registrants to better understand the exposure of any registered entities or registrants to climate-related financial risk and how those risks translate to economic and financial impacts?
It is imperative that CFTC registered entities and registrants conduct climate scenario tests and stress tests. E3G encourages the CFTC to leverage responses from this RFI to:
• Develop regulatory frameworks that require assessment of climate risks and tools. These should include consideration of market participants’ ability to manage climate related prudential risks, such as capital, margin and liquidity requirements and counter-party risks, as well as market integrity considerations;
• To have CFTC regulated entities and registrants, as well as the CFTC, draft mandatory transition plans setting clear time-bound targets at short, medium and long term, to assess their commitment to managing climate risks; and,
• Work within FSOC to re-evaluate the financial risks associated with assets linked to, for instance, fossil fuel exploitation, which will lose value due to climate change.
RISK MANAGEMENT
Mandatory transition plans that would include targets and be integrated into a holistic set of rules to ensure that market participants identify, manage and mitigate climate-related financial risks can provide a jump start to risk management efforts. Transition plans should be complemented by robust capital requirements to cover potential future losses.
Question 8: How might registered entities and/ or registrants need to adapt their risk management frameworks—including, but not limited to, margin models, scenario analysis, stress-testing, collateral haircuts, portfolio management strategies, counterparty and third-party service provider risk assessments, and/or enterprise risk management programs—to address climate-related financial risk?
The CFTC should treat as economic activities that are considered environmentally harmful to be subject to high regulatory capital requirements tighter liquidity requirements; capital add ons for concentration risk if they fail to reduce their exposure urgently; higher systemic risk buffers according to their exposure to environmentally harmful assets and assets in particularly vulnerable regions.
We are aware of at least two recent reports can help inform the CFTC’s consideration of these issues:
• Ceres report on Derivatives and Bank Climate Risk includes analysis of the extent to which certain ‘loan equivalent risks’ can be taken into account in risk analysis, which may be all the important given the increased volatility in energy commodities; and,
• Finance Watch’s recently released report on “A safer transition for fossil banking: Quantifying the additional capital needed to reflect the higher risks of fossil fuel exposures.”
Question 10: Could the Commission’s existing regulations and guidance better clarify expectations regarding management of climate risks, taking into account a registered entity’s or registrant’s size, complexity, risk profile, and existing enterprise risk management processes? Would it be helpful for the Commission to promulgate regulations or issue guidance for registrants and/or registered entities regarding the implementation of policies and procedures to measure, track, and account for physical and transition risk?
As noted earlier, the promulgation of binding regulations will best promote the adoption of sound, data-based policies and procedures to measure, track and account for physical and transition risk. This will facilitate the ability to identify risk mitigation activities and mechanisms for achieving net zero goals. In the meantime, the CFTC should explore any mechanisms available to signal to the markets that it will move to mandatory requirements.
Question 11: DCOs’ risk management frameworks focus on market risk aspects with add-ons for liquidity, concentration, wrong way risk, settlement risk as well other asset class appropriate risks. Should these risk management frameworks directly incorporate climate-related risk specific to clearing member firms, or their clients’ climate-related risks, and, if so, how?
Yes. We support the incorporation of climate-related risks to clearing member firms, and their clients’ climate related risks.
Question 12: Should the Commission consider amending its minimum capital and liquidity requirements to better recognize climate-related risks?
Yes. See above responses.
DISCLOSURE
Question 13: The Commission staff is evaluating the Commission’s public disclosure, including public information, requirements to assess whether existing requirements need to be updated to effectively provide decision-useful, consistent, and comparable information on climate- related risks. Are there ways in which updated disclosure requirements could aid market participants in better assessing climate-related risks?
Yes. As noted above, transition planning should be mandated and made compatible on a cross border basis and include Scope 3 emissions. Making transition plan information public, and available to market participants can spur more efficient pricing and enhance markets’ and regulators’ ability to conduct systemic risk assessments, and plan for systemic risk mitigation.
We understand that there are a number of challenges in achieving international alignment on reporting and urge the CFTC to leverage off these efforts.
Question 14: A goal of climate-related financial disclosure is to offer meaningful information about climate-related financial risks, and to foster increased transparency into those risks. In connection with any assessment of whether updated requirements are needed, what specific disclosures, building on the Task Force on Climate- Related Financial Disclosures’ (‘‘TCFD’’) four core elements of governance, strategy, risk management, and metrics and targets,32 would be most helpful for the Commission to consider?
The TCFD, in its October 2021 status update, provided new guidance on developing climate transition plans to inform disclosures under the strategy element . Regulators in other jurisdictions including the UK and Malaysia are introducing requirements on transition plan disclosure to be consistent with TCFD. The CFTC should collect and publicly provide data and analytics as a public goods to enable climate and biodiversity risk assessments by registrants and regulated entities. Templates based on the TCFD and Task Force for Nature-related financial services should be promoted.
Question 15: Should the Commission, consistent with its statutory mandate and regulatory authority, consider the establishment by registrant category (e.g., CPOs, CTAs, FCMs, IBs, and SDs) of climate-related risk disclosure requirements based on the TCFD’s four core elements?
Yes. In addition to tracking the TCFD’s four core elements, transition plans including disclosure requirements should be mandated.
Question 17: FSOC Report Recommendation 3.4 suggests that FSOC members issuing requirements for climate-related disclosures consider whether such disclosures should include GHG emissions, as appropriate and practicable, to help determine exposure to material climate-related financial risks. Should registered entities and registrants be required to disclose information relating to GHG emissions?
The CFTC should work to ensure that IOSCO supports and endorses standards being developed by the ISSB regarding the disclosure of GHG emissions.
PRODUCT INNOVATION
Question 18: What derivatives products are currently used to manage climate- related financial risk, facilitate price discovery for climate-related financial risk, and/or allocate capital to climate- benefiting projects? Please explain how these products are used, negotiated, and traded. What, if any, conditions, including market practices and/or regulatory requirements, may constrain or promote their expanded use or development to address climate-related financial risk? Are there ways in which Commission regulations or guidance could better address particular considerations relating to the listing of these types of products for trading?
Listings for derivatives trading should include TCFD disclosures and mandated transition plans.
Question 19: Are there customer protections or other guardrails that the Commission could consider to promote market integrity in climate-related derivatives products?
See above responses proposing use of capital requirements to address climate risk.
Question 20: Are there any potential innovations in climate-risk-related technology that could shape derivatives product innovation or are otherwise likely to impact the derivatives markets overseen by the Commission?
The CFTC should contribute to ongoing international conversations on technological developments, such as within IOSCO and in collaboration with the BIS.
VOLUNTARY CARBON MARKETS
Question 22: Are there ways in which the Commission could enhance the integrity of voluntary carbon markets and foster transparency, fairness, and liquidity in those markets?
Question 23: Are there aspects of the voluntary carbon markets that are susceptible to fraud and manipulation and/or merit enhanced Commission oversight?
Question 24: Should the Commission consider creating some form of registration framework for any market participants within the voluntary carbon markets to enhance the integrity of the voluntary carbon markets? If so, what would a registration framework entail?
See above response.
DIGITAL ASSETS
Question 25: Are digital asset markets creating climate-related financial risk for CFTC registrants, registered entities, other derivatives market participants, or derivatives markets? Are there any aspects of climate-related financial risk related to digital assets that the Commission should address within its statutory authority? Do digital assets and/or distributed ledger technology offer climate-related financial risk mitigating benefits?
E3G acknowledges the recent White House First-Ever Comprehensive Framework for Responsible Development of Digital Assets released on September 16, 2022. E3G supports further CFTC analysis of the issues noted including work by the Department of Energy, the Environmental Protection Agency and other USG agencies in tracking digital assets’ environmental impacts; developing performance standards as appropriate and providing local authorities with the tools, resources and expertise to mitigate environmental harms.
PUBLIC PRIVATE PARTNERSHIP ENGAGEMENT
Question 28: What mechanism(s), if any, would be useful for the Commission to employ to foster public-private partnerships to address climate-related financial risk within the derivatives markets?
The CFTC should use the reconstitution of its Market Risk Advisory Committee sub-committee on Climate Risk as a way of enhancing public-private partnerships.
Question 31: During the IBOR transition, the Alternative Reference Rate Committee was formed, in part, to identify best practices for robustness of inter-bank offered rates. Would the formation of a similar standard-setting committee be useful in the development of climate- related indices designed for mitigation of the long-term risks of climate change, such as temperature and sea level rise or carbon concentration within the atmosphere, or the development of other standards or best practices?
It would be useful for such a committee to be formed, particularly to the extent it can serve as a focal point for the development for such indices and interaction among FSOC members who oversee market participants that may utilize such indices. In addition, such a committee could also serve as a convening utility for bringing on board relevant climate scientists and other U.S. departments and agencies – further promoting the U.S.’s whole of government approach.
CAPACITY and COORDINATION
Question 34: How should the Commission coordinate its efforts with international groups and other regulatory bodies and supervisors? Are there standards, definitions, or metrics that could facilitate the sharing of relevant climate- related information amongst regulatory bodies and supervisors, and/or their analyses and aggregation of climate- related data? Are there specific steps that could be taken to enhance global coordination and regulatory comity?
See above responses. Climate change issues can only be successfully addressed through international coordination and information sharing. The CFTC can lead by example and signal what standards, definitions, etc. are relevant by publishing its own transition plan and information sharing.
Yours sincerely,
E3G
