The Pension Regulator (TPR) has published several recommendations for trustees to reach clear climate scenario analysis after criticism that “starkly highlight” the limitations of current models.

In a blog post published yesterday, TPR’s climate and sustainability lead Mark Hill outlined a series of actions trustees can take to “drive change”, following reports criticising the climate scenario analysis used by pension schemes from organisations including the Institute and Faculty of Actuaries (IFoA).

Hill said that these reports “starkly highlight” the limitations of current models and scenario analysis and “rightly question” the validity of some published outcomes, which appear to “seriously underestimate” the financial risk from climate change and are “at odds” with the established earth and climate science.

However, he added that this presents a “timely opportunity to take stock and look ahead”.

Hill said that the industry needs to “collectively consider” what needs to be done to address the shortcomings in the available models and approaches to scenario analysis in order to create “truly decision-useful” climate scenarios.

He said: “Only in this way will practice evolve at the pace required, gaps close and a degree of consensus emerge around climate scenarios.”

Hill added that following the recent criticism and concern, it is “clear” a degree of revolution – not evolution – is needed and trustees need effective tools and approaches to adequately identify and respond to risks to avoid leaving savers exposed.

He added: “Starting now, we need to help a new consensus emerge.”

Hill argued that to achieve this objective, a more “forward-looking” approach including transition planning will be needed, and trustees in particular will need to focus on informed decision-making, leading to accelerated action on risk management and investment opportunities.

Mark Hill at TPR

“Triggers for new analysis include the availability of new or improved scenarios or modelling capabilities or a change in practice or trends”

Mark Hill, climate and sustainability lead at TPR

But decision-useful climate scenarios are a key part of this, according to Hill who argued that while there are limitations with some elements of data, analytics and modelling, decision usefulness of outputs will improve as industry knowledge and understanding develops.

He continued: “That said, the window for action is narrowing rapidly. Future change is unlikely to be incremental and some changes – for example, market re-pricing, could happen rapidly. TPR is committed to supporting and helping trustees as, collectively, we face this uncomfortable reality.”

Hill added that the challenge now is to ensure the models used and scenarios analysis address a “fuller range” of real-world risks and uncertainties and recent events have shown how climate risks can “crystallise, compound with other risks and cascade”.

Hill made several recommendations for trustees to ensure they can question and challenge advisers and the output from climate scenario analysis.

He said that trustees should have the appropriate level of knowledge and understanding of climate issues, and undertake regular training and ask for additional training if they do not feel comfortable making decisions based on the information provided.

He also said trustees should regularly review the climate-related capabilities of service providers and consider the need for additional advisers or specialist input as well as understand the narratives underlying their climate scenarios, the limitations of those scenarios and the assumptions made in their constructions. Trustees should also broadly rationalise the outputs from those scenarios for their schemes.

Finally, he said that trustees should consider with advisers the use of stress testing and tail-risk analysis to complement their climate scenario input to investment strategy decision-making.

He said: “In the years where trustees are not formally required to undertake scenario analysis, we expect them to review their most recent analysis and consider undertaking more, in the light of the recent developments TPR has highlighted.

“Triggers for new analysis include the availability of new or improved scenarios or modelling capabilities or a change in practice or trends.”

Hill added that where trustees do not undertake new analysis, they should explain why in their Taskforce on Climate-related Financial Disclosures (TCFD) report.

He continued: “We also expect trustees and their advisers to be mindful of industry developments and good practice.”

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