S&P Global addressed the potential risks of the climate transition on banks in the Gulf Cooperation Council (GCC) region in a new report on Thursday. The agency discussed GCC banks’ exposures to sectors that are most vulnerable to climate transition risks, the banks’ level of preparedness, and their status of climate risk reporting.
The agency reveals that GCC banks are still vulnerable to climate transition risks. However, they are taking the necessary steps to mitigate them through sustainable bonds and sukuk. Moreover, some of them have placed frameworks for the effective management of climate-related financial risks. Notably, S&P Global highlights First Abu Dhabi Bank (FAB) as among the most advanced banks in the region when it comes to quantifying and setting targets for financed emissions.
Climate transition risks and creditworthiness
S&P Global states that climate transition risks can increase banks’ credit risk and losses. The risk increases if banks are exposed to high-emitting industries and borrowers. Exposure to these industries can damage banks’ reputations and deprive them of access to some funding sources. Therefore, this weakens their funding profiles if they rely heavily on external funding.
In the GCC, central bank data reveals that direct lending exposures to these sectors stood at about 12 percent of total lending in 2023. That is a low percentage considering the importance of hydrocarbons in GCC economies. However, most oil companies typically self-finance via joint ventures or access international capital markets. Notably, several GCC banks are government-owned so they continue to support their respective governments’ climate transition objectives. S&P Global indicated that the materialization of some climate transition risks will take a long time. It also states that banks with significant dependence on wholesale foreign funding may be more vulnerable than others. To mitigate that risk, GCC banks have increased sustainable bond and sukuk issuances over the past two years. However, the contribution of sustainable bonds to total bond issuance in the GCC region still remains small.
Climate risk reporting
In a study of 20 GCC banks, S&P Global revealed that only two-thirds of the banks published a materiality assessment. Meanwhile, only 30 percent of them considered environmental risk a key risk. The research also revealed that 70 percent of rated GCC banks offer stainability-labeled products. Therefore, there is still a lot of progress to be made in reporting, especially for smaller banks.
Key challenge
GCC banks consider the quantification of climate transition risks as a key challenge. They mainly face difficulties with measuring scope 3 emissions. In March 2023, FAB announced its targets to reduce emissions in oil and gas, aviation and power generation sectors, among others. The bank’s reduction targets apply to approximately 90 percent of its corporate-financed emissions. Therefore, FAB is among the most advanced banks in the region in terms of quantifying and setting targets for financed emissions.
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UAE central bank
Stemming from the challenges banks in the GCC region face, in November 2023, the UAE central bank published principles for the effective management of climate-related financial risks. S&P Global notes that their application will require significant investments from UAE banks. Moreover, they will need the incorporation of climate risks in capital and liquidity assessments and risk management frameworks. Some UAE banks have already started integrating environmental and social risk management in their risk management frameworks. However, S&P Global believes that the adoption of these principles will be gradual and iterative, requiring time for their integration into the strategies of UAE banks and their management of climate-related risks.
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