By Fiona Donnelly of Red Links Sustainability Consortium and Derek McGibney of Cognitive GRC
In August 2021, Hong Kong’s Securities and Futures Commission (SFC) announced its Consultation Conclusions on the Management and Disclosure of Climate-related Risks by Fund Managers.
The resulting revised Fund Manager Code of Conduct (FMCC or Code, available here) could present a step-change in the consideration of climate risk and its related disclosures for some fund managers.
This will change will happen sooner than later: all licenced firms who are bound by the FMCC will have compliance deadlines in 2022. Large Fund Managers must comply with baseline requirements by 20 August 2022. Other Fund Managers have until 20 November 2022 for the same; this is also the date by which Large Fund Managers must comply with the enhanced standards.
This article is not a commentary or explanation of the Code; more it is intended to provide a few pointers and observations from an environmental, social and governance (ESG) viewpoint, to help fund managers interpret and get started with implementing a process to satisfy the changes to the FMCC relating to climate risks.
1. Climate thinking and disclosures
Globally, climate considerations are commanding more attention, and increasingly the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD) is the ‘go to’ framework to understand and report what ‘climate’ means for an organisation.
The FMCC follows this trend: the SFC has mainly made reference to the TCFD recommendations when developing the requirements for the FMCC. However, it is worth remembering that TCFD is new: it was launched in 2017 and is already evolving as refinements are made through learnings as more organisations get better at adopting the framework over time. It will become mandatory for more jurisdictions and actors over the next few years.
Work undertaken to apply the TCFD – including risk assessment, governance, policies, strategy, measurement of GHG inventories, reporting and other processes - will clearly be helpful for the FMCC. Actions taken to comply with the FMCC since 2018 with regards to risk management and scenario testing, will help firms adopt changes to comply with TCFD aspects of the new FMCC. While both concern climate management/processes and disclosures, and there are elements of overlap, it’s worth noting some key areas of difference:
Usually voluntary, principles-based framework
Prescriptive, mandatory Code
One size fits all
Two levels – baseline and enhanced – determined by the size of the fund
Scope (more below)
Climate risks and opportunities
Predominantly climate risks
Entity level requirements
Entity, investment strategy and fund level requirements
2. Mapping risks
While tracking, then forming a view on and pricing risk, is very familiar territory for fund managers, climate risk may be less familiar, in terms of its constituent elements as well as their relevance to different asset classes, timeframes, investment strategies, potential impact in different geographies, and more. (In fact, the world is learning more and more as increasing sources of reliable climate-related data and tracking mechanisms become available.)
In an attempt to show how the new FMCC may be relatable to current fund manager risk analysis, below we show how the constituents of climate risks per the TCFD could already form or influence some of the more traditional risk considerations of fund managers.
3. The universe of climate risks that matter for the FMCC
Climate risk could comprise a daunting and vast population of sub-topics. But the FMCC, as is a typical approach for sustainability, draws users to focus only on what matters most.
Throughout the FMCC, some key phrases arise – and some are repeated – that while creating grey space that will be somewhat open to interpretation, also allow application of the Code in a reasonable way and in a way that will produce disclosures that reflect the reality of how climate risks are incorporated into investment decision making and risk processes. For example:
Baseline requirement para 3.1A of FMCC states “Fund Manager should identify relevant and material climate-related risks and ensure that material risks are taken into account in its investment management process for funds.”. To whom/what the Code has to be applied is clear; how it has to be applied is down to judgement and systematic consideration of what climate risks are relevant and material to an investment philosophy – undertaking this exercise should be one of the first steps in preparation for adopting the Code’s new requirements (click here for references on how material may be defined).
For Large Fund Managers, enhanced standard para 6.2A of FMCC requires firms to “take reasonable steps to identify…[certain] GHG emissions associated with the funds’ underlying investments, where data is available or can be reasonably estimated”. Like the above point, the SFC is not intending to create unreasonable requests of reporters; so again, a systematic evaluation and formal decision as to the best approach is advised.
There’s a lot of new and evolving sustainability-related hoops to jump through in the business world on the whole, but with careful planning, analysis and leverage, they need not become a huge and onerous additional task for fund managers. If done well, applying new climate risk requirements, like FMCC, should result in a more complete evaluation of climate opportunities as well as risks, and therefore surface even more ways to avoid and mitigate losses, and create value. Thereby, the result will arguably achieve even better financial and non-financial returns for asset owners.
Click here to learn how the Red Links Sustainability Consortium can help you better understand and assimilate climate risks and opportunities into your business, and much more.
Click here to learn how Cognitive GRC can provide governance, risk and compliance advisory and housekeeping support to firms licensed in Hong Kong.
Through working together, Red Links and Cognitive GRC present a strong solution to support the implementation of regulators' ESG compliance measures.
Article on the increasing prevalence of TCFD, The ubiquity of climate in today’s business world
This article is for information only and is not intended to be a comprehensive review. Obtain direct and tailored advice before applying anything contained in this material to a specific scenario. For more information, contact Red Links or Cognitive GRC. External links are included for readers’ convenience. The inclusion of these sources is neither an endorsement of that provider nor intended to provide readers with any assurance as to the completeness or accuracy of the particular material linked.
Cover Image Credit to Colin Prior