Why Investors Need Climate Change Probabilities Not ‘Certainties’

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TMI 22/01/2024

Investment News New Zealand

"Current climate-change scenarios, while effective for policy development, are of little use to investors, and could even be increasing jeopardy. TMI talks to a climate risk scientist from the EDHEC Risk Climate Institute about the issue, and a possible solution.

The precision with which financial projections based on climate-change scenarios have been presented is dangerous, conveying a degree of knowledge that is impossible to achieve, and putting at risk major investment decisions. This is the view of Professor Riccardo Rebonato, Scientific Director, EDHEC-Risk Climate, part of the EDHEC Risk Institute.

Rebonato believes that as we move into uncharted territory with climate change outcomes, the absence of expert knowledge or market experience renders current scenarios “of little use to investors because there are no probabilities attached”.

Having found that some estimates of portfolio losses due to climate change are highly unlikely, Rebonato and his team of scientists at EDHEC set about finding a way of creating scenarios that are better equipped to reflect the full uncertainty of climate-change outcomes, and to enable more effective investor assessment of the relative likelihood of their occurrence. Ultimately, their goal is to offer investors more comfort in their decisions around climate-changed based investments.

Incorrect application

The problem is not necessarily with the models currently used to guide investors – the Dynamic Integrated Climate Change or DICE model, for example is a Nobel Prize-winning solution “for integrating climate change into long-run macroeconomic analysis”. Instead, says Rebonato, it is the “inappropriate use” of a framework that is intended for policy making, in the scenario-analysis setting. (...)"

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Why Investors Need Climate Change Probabilities Not ‘Certainties’