Published: December 10, 2024
Trillions of dollars in financing are needed to mitigate global warming and adapt to climate risks, yet only one-fifth of financial institutions assessed in the 2023 S&P Global Corporate Sustainability Assessment (CSA) have identified specific climate change-related business opportunities.
Sustainable finance represents about 13% of banks’ total corporate finance activity.
The share of firms with net-zero targets covering Scope 3 financed emissions, which represent the vast bulk of emissions for financial institutions, has risen slightly in the past year but remains low.
The 29th UN Climate Change Conference known as COP29, which has just wrapped up in Baku, Azerbaijan, highlighted the importance of the private sector in mobilizing the trillions of dollars needed for the world to transition to a low-carbon economy and build resilience to climate physical risks.
The conference ended with an agreement called the New Collective Quantified Goal on Climate Finance (NCQG), under which developed countries will scale up the public finance they provide to developing countries for climate-related projects to $300 billion annually. The NCQG also included a broader target of $1.3 trillion annually by 2035, with the expectation that the additional $1 trillion largely be met by private capital.
Financial institutions can play a central role in providing that money for developing countries, but they are also a major engine for financing climate and clean energy projects in developed countries. The Independent High-Level Expert Group (IHLEG) on Climate Finance, a research group created to support climate finance deliberations at COP meetings since 2021, wrote in a report produced for COP29 that the private sector accounted for 50% of total climate finance in 2022, most of which went to advanced economies. The IHLEG estimated that the global projected investment requirement for delivering on the Paris Agreement on climate change is around $6.3 trillion to $6.7 trillion per year by 2030 — a figure that includes all sources of finance, from public and private financing to multilateral development banks and other sources. Most of this money is needed in emerging markets and developing countries, which are often more exposed to climate risks and contain much of the world’s biodiversity and natural resources.
While these figures indicate a clear need for financial institutions to facilitate investment in climate mitigation, adaptation and nature-based solutions, S&P Global Sustainable1 data shows that firms have been slow to act. Only about one-fifth of financial institutions have identified business opportunities related to climate change, a proportion that will need to ramp up sharply if global climate financing goals are to be met. Transparency on sustainability-related financing activity is low, with only 17% of firms disclosing what share of their corporate financing activity is sustainable. And while net-zero commitments and emissions targets that cover Scope 3 financed emissions are ticking up, they remain the exception rather than the rule.
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This analysis is based on responses to the S&P Global Corporate Sustainability Assessment (CSA), an annual evaluation of companies’ sustainability practices and performance. Companies in the banks and financial services industries were assessed in the CSA on sustainable finance. Insurance companies were also assessed on net-zero commitments and reduction targets for Scope 3 category 15 emissions, or emissions associated with financing, investment or insurance. |
The CSA includes a topic in which companies can describe climate change-related opportunities that have the potential to generate positive change in their business operations, revenue generation and expenditure. In 2023, about one-fifth of companies (21%) from a sample of 1,647 banks and financial services firms had identified these opportunities. A majority of responses were categorized as “not known,” which refers to answers not verifiable in the supporting evidence or comment provided by the company, and for which CSA analysts could not find additional information.
The percentages were higher for banks compared to financial services companies. Of the 809 banks assessed, 26% had identified climate change-related opportunities, while 4% had not conducted an analysis of their climate change opportunities. Of the 838 financial services companies assessed, 17% said they had considered climate change-related opportunities, and 6% had not analyzed potential climate change-related opportunities.
Companies that identified climate change-related opportunities described a variety of financing projects in their assessments, including renewable energy infrastructure; recycling and waste management; sustainable agriculture; and green and sustainable bonds and loans, among many others.
Banks and financial services firms are also rolling out retail and business banking products, including mortgages with preferential interest rates for new or renovated homes; electric car loans and loans for small- and medium-sized businesses; and energy efficiency lending products for homeowners. They are also developing funds that prioritize sustainable investments. Some also described advisory services for corporate clients seeking support on climate risk management or on the energy transition, such as oil and gas companies seeking to move into renewables.
Corporate finance — how financial institutions help corporate clients finance their operations, structure their capital and increase company value — is a major branch of business that banks and financial services firms can transition toward more sustainable activity.
Only about 33% of financial institutions have sustainable corporate finance offerings, according to CSA assessments of 965 financial firms. A more granular view into how corporate finance is evolving toward sustainability is also limited by a lack of transparency. Of the 321 companies with sustainable corporate finance offerings, only half disclose the share of their total corporate finance activity that is sustainable. These firms leading in transparency represent only 17% of the overall sample of 965 companies assessed.
Disclosure of corporate sustainable finance is likely to increase as regulation evolves and sustainability reporting frameworks are adopted around the world. The EU’s Sustainable Finance Disclosure Regulation, for example, has introduced stricter disclosure requirements on sustainable investments. Globally, initiatives like the International Sustainability Standards Board are working to standardize reporting frameworks to include reporting on climate-related risks and opportunities, among other topics.
Enhanced disclosures create more transparency around sustainable finance and provide clarity to the market about the sustainable products a firm offers. Transparency at financial institutions engaging in sustainable finance is important to mitigate the risk of misrepresentation or potential greenwashing in financial markets — an area that some regulators have increasingly focused on.
Concerns over how investment firms are labelling sustainable funds, for example, have led regulators to provide guidance on definitions. The European Securities and Markets Authority (ESMA) in May 2024 published guidelines for the use of ESG or sustainability-related terms in investment fund names.
CSA data shows a mixed bag when it comes to transparency in financial institutions’ sustainable product and service offerings. Of the firms assessed in the CSA that offer sustainable finance products or services, only 22% disclose clear definitions of their corporate finance products and the values associated with them.
CSA data also shows us that sustainable finance accounts for a small slice of corporate finance. Based on responses from the 163 financial institutions that reported the total value of their corporate finance activity and the amount directed at sustainable projects, banks allocate 13% of their corporate finance for sustainable finance, while financial services firms allocate 15% toward sustainable finance.
Nearly all (95%) of these 163 companies offer green loans, social loans or sustainable loans, while less than half offer sustainability-linked loans. Green loans finance environmentally friendly projects like wind farms or solar power, while social loans raise money for social projects, including affordable housing, health and education. Sustainability-linked loans feature preferential terms based on key performance indicators, encouraging the borrower to hit specific, measurable sustainability goals.
One of the challenges facing financial institutions looking to expand their sustainable financing efforts is finding “bankable” projects — ones in which expected returns are commensurate with risk. Commercial financial institutions are typically more active in established markets and in projects that involve tested technologies. However, financing needs are greatest in emerging markets and developing countries and for projects with indirect financial returns, such as climate adaptation projects.
Closing this risk gap is one of the keys to getting more private capital involved in climate finance. COP29 put a spotlight on collaboration among public entities, nongovernmental organizations, philanthropy and financial institutions, including both multilateral development banks (MDB) and large commercial firms. Creative financing solutions that bring these forces together can take the form of blended finance , in which a philanthropy or MDB can reduce risk in a project by issuing guarantees and accepting a portion of losses, with the aim of attracting private capital that would otherwise find the project too risky. In July 2024, the World Bank launched a new guarantee system to facilitate capital flows. Speaking at COP29, World Bank President Ajay Banga also said the bank is looking at ways of reducing foreign exchange risks and creating an asset class for debt in emerging markets and developing countries that could form a new financial market.
While increased disclosure and transparency can provide clarity to investors on how financial institutions are approaching sustainable finance, financial institutions can also draw clear roadmaps outlining how they intend to reach climate and sustainability goals. Achieving carbon neutrality or net-zero emissions by a certain date is a common goal. For financial institutions, that means tackling Scope 3 emissions — or those emissions that occur throughout a company’s value chain — and more specifically, category 15 of Scope 3, which refers to emissions from investments or other financial support.
Scope 3 represents the vast majority of emissions for financial institutions, and transitioning portfolios away from carbon-emitting activities and toward sustainable ones can reduce a Scope 3 footprint. While many companies also use carbon offsets to balance out their emissions, cutting actual emissions as close to zero as possible and offsetting only the remainder is at the heart of a credible commitment to net-zero.
Setting specific reduction goals as steppingstones on the way to net-zero can give a company benchmarks on how it is faring in making corporate finance offerings more sustainable or how it is helping clients make their business greener.
CSA data shows that only a small number of financial institutions are setting net-zero commitments and long-term targets to address carbon emission reductions.
Out of a universe of 1,459 financial institutions assessed in both the 2023 and 2022 CSA, 18% of banks had a net-zero target in 2023, compared to 9% for financial services firms and 25% for insurers. The higher rate for insurers could reflect that they are often responsible for paying property claims from losses due to climate disasters like hurricanes or wildfires, which may be incentivizing them to take stronger action on reducing the severity of climate change. Across all three financial industries, net-zero commitments and long-term emission reduction target-setting have increased slightly over the past year. The CSA requires net-zero targets and reduction targets in the financials sector to include financed emissions.
According to the European Central Bank, banks in the 20 countries of the eurozone area have reduced their financed emissions since 2018 as companies take steps to cut their emissions and banks shift portfolios toward lower-emitting activities. The reduction could be a response to a slew of EU policymaking in recent years requiring companies to report on Scope 3 emissions. For example, the EU’s Corporate Sustainability Reporting Directive has been phased in from Jan. 1, 2024, and mandates Scope 3 emission disclosure. The EU’s Sustainable Finance Disclosure Regulation has required asset managers to measure firms' Scope 3 emissions since Jan. 1, 2023.
In the US, California approved a law in October 2023 that would require large companies doing business in the state to begin reporting Scope 1 and Scope 2 emissions in an annual report starting in 2026, with Scope 3 reporting beginning in 2027.
Several jurisdictions in Asia-Pacific have adopted or are planning to adopt sustainability-related disclosures that would require reporting on Scope 3 emissions. Regulators within the region have been looking more closely at banks and other financial institutions’ climate exposure in recent years.
COP29 highlighted the role financial institutions can play in facilitating the flow of trillions of dollars in capital needed to mitigate and adapt to climate change. Much of that money will need to come from private sources, which will have to find innovative ways of scaling up finance while managing risks. Innovative financial mechanisms that allow philanthropic institutions or MDBs to absorb some risk could be a piece of the puzzle.
The stakes are high for banks and other financial institutions. Financial institutions are exposed to the wider economy through lending, investing or underwriting across industries, and economic losses from climate impacts across disparate industries could manifest in loan portfolios and investment funds. But they are also in a unique position to enable the transition to a low-carbon economy. Building out sustainable finance offerings can help financial firms take meaningful steps toward reducing Scope 3 emissions and unlocking the capital the world needs to mitigate and adapt to climate risk.
This piece was published by S&P Global Sustainable1 and not by S&P Global Ratings, which is a separately managed division of S&P Global.
