Banks need to improve climate risk disclosure and reduce fossil fuel exposure if a United Nations-backed framework on responsible banking is to have an impact, observers say.

In September, about 130 banks representing a third of global banking assets signed up for the Principles for Responsible Banking at the UN General Assembly in New York, under which they will bring their strategies in line with the Paris Agreement on climate change — limiting the rise of global temperatures to "well below" 2 degrees C above pre-industrial levels — and the UN's Sustainable Development Goals, which promote education and health.

The six principles also require banks to set targets, work responsibly with customers and other stakeholders, and call for effective governance, transparency and accountability. The targets can include environmental, social and/or governance issues.

While some lenders have been taking steps to offset the potential financial risk of climate change to the balance sheets, the sector has come under fire for not doing enough, and regulators fear banks may be left with stranded assets, putting the whole economy at risk.

Disclosure

Disclosure on carbon exposure as well as a timetable on reducing fossil fuel financing and switching to more renewable sectors will be useful for bank shareholders as it will provide data on which lenders are making progress and have the most ambitious targets, said Sonia Hierzig, senior projects manager for climate change at investor advisory group ShareAction.

Currently there is a lack of data making it difficult to assess how banks are faring on their carbon and climate disclosure, she said.

The United Nations Environment Programme Finance Initiative set up the principles with the banking sector, and Hierzig said the UN body should give lenders further guidance on implementing the principles and assess whether they are being sufficiently ambitious.

Banks have to publish their first self-assessment report 18 months after signing up for the principles and have three to four years to implement them.

The process should be open to more public scrutiny, such as information on when exactly a bank signed to the principles and whether it is on target for meeting its reporting requirements for what is a "very lenient timeline," said Johan Frijns, director of BankTrack, a banking watchdog group that tracks lenders' exposure to fossil fuels.

Greenwashing

Antoni Ballabriga, global head of responsible business at Spain's Banco Bilbao Vizcaya Argentaria SA and European banks representative at the United Nations Environment Programme Finance Initiative's Global Steering Committee, said lenders who endorsed the process early on its creation will start reporting on their targets in 2020.

Setting environmental, social and/or governance targets and assessing their balance sheet should ensure that banks are serious about becoming more sustainable, he added.

"The best guarantee to avoid greenwashing is that all the banks in the principles will have to define impact areas and define targets," he told S&P Global Market Intelligence in a recent interview.

Greenwashing is a practice whereby a project is made to sound more environmentally friendly than it actually is.

Disconnect

When announcing the Principles for Responsible Banking, UN Secretary-General António Guterres challenged the founding signatory banks to disinvest from fossil fuels.

BankTrack's Frijns said there was a disconnect between signing up for the principles and banks' actual actions because they continue to finance oil, gas and coal, and said they need to set out a plan detailing how they can exit.

According to the Banking on Climate Change 2019 report, which was partly authored by BankTrack, 33 global banks financed fossil fuel companies to the tune of $1.912 trillion between 2016 and 2018 and increased total yearly funding to $654.12 billion in 2018, up from $611.88 billion in 2016. The top 10 include principle signatories such as Citi, Barclays, MUFG and Mizuho.

Simone Dettling, who leads the banking team at UNEP FI, said the information banks provide would be independently audited to ensure they were keeping to their commitments.

There will be annual meetings to assess progress, and banks not meeting requirements will be able to address their shortcomings, she said. If a bank does not make the requested changes, it will be asked to leave, she added.

Dettling also said simply walking away from clients would not be the most effective way of bringing about change. For example, a bank that helps an energy company transform the technology it uses to produce energy has a much stronger impact.