By Wahib Ghazni, PhD, Technical Product Manager, Financial Risk, Jupiter

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In a world where climate change poses an ever-growing threat to our environment and economies, understanding and managing climate finance risks is paramount. As we recap a recent webinar –“Climate Change & Asset Valuation: What Every Business Needs to Know”– hosted by Wahib Ghazni, Technical Product Manager, Financial Risk at Jupiter, we'll explore how using physical climate data can help businesses safeguard their portfolios and assets against the looming specter of climate change. From tangible impacts to global urgency and market demand, this article unravels why Jupiter has chosen to concentrate its efforts on this vital aspect of risk management.

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Climate-related financial risks can be broadly classified into two categories: Understanding the investment's impact on the climate, and the climate’s impact on the investment.

The first type of risk focuses on the potential negative effects that investments may have on the climate and environment, such as through emissions or resource depletion. It is crucial for investors to consider the environmental footprint of their investments and align them with global sustainability goals in order to mitigate this risk.

The second type of risk concerns the effects of climate change and environmental degradation on investments, which can be further divided into transition and physical climate risks. Transition risks stem from policy responses to climate change, such as regulations or market shifts, that may affect the value or viability of investments. Physical climate risks, on the other hand, are associated with the direct impacts of climate change on assets, such as extreme weather events or rising sea levels, that can cause damage or disruption to investments.

Understanding and managing these climate-related financial risks are essential for investors to make informed decisions and contribute to a more sustainable and resilient global economy.

Out of all these climate-related financial risks, Jupiter chooses to concentrate its efforts on physical climate risk. This decision stems from several factors that make understanding and mitigating physical climate risks increasingly vital for investors and businesses alike.

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Tangible impacts: Physical climate risks are associated with tangible and visible effects of climate change, such as extreme weather events, rising sea levels, and shifting temperature patterns. These events can cause significant damage to infrastructure, disrupt operations, and result in financial losses. By focusing on these risks, Jupiter can help clients better prepare for and adapt to the realities of a changing climate.

Global urgency: As climate change accelerates, the frequency and severity of extreme weather events and other physical climate impacts are expected to increase. By honing in on physical climate risks, Jupiter addresses a growing global concern, offering valuable insights and data to clients who need to adapt their strategies in the face of intensifying climate-related challenges.

Market demand: Investors and businesses are becoming more aware of the financial implications of physical climate risks, driving demand for specialized risk assessment and management solutions. By catering to this market need, Jupiter positions itself as a trusted partner for organizations seeking to understand and mitigate the threats posed by climate change.

Data-driven solutions: Jupiter leverages cutting-edge technology and advanced data analytics to model and predict physical climate risks, offering clients actionable insights to inform their decision-making processes. This focus allows the company to harness the power of data and technology to develop innovative solutions that help businesses and investors navigate the complexities of a rapidly changing climate landscape.

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In summary, Jupiter's emphasis on physical climate risk is driven by the tangible impacts of climate change, the global urgency of addressing these issues, the growing market demand for specialized solutions, and the potential to leverage advanced data analytics to deliver valuable insights and strategies for risk mitigation.

At Jupiter, we aim to provide a comprehensive assessment of the direct financial impacts of physical climate change on an asset's operations, market and credit risk. By quantifying the financial impact of climate-related events on inventory, downtime, overheads, building, equipment, and other expenditures, customers will be better equipped to identify financial areas that are most vulnerable to climate risks and build climate resilience into their businesses. 

Understanding the types of climate change risk is crucial for financial market participants to make informed decisions and develop strategies that can mitigate potential adverse effects on their investments.

As climate change-related events such as extreme weather, floods, and droughts become more frequent and severe, they can lead to various consequences affecting these three types of financial risks: Operational, Market, and Credit.

Impact on Operational risk: 

Physical climate risk can directly impact a business's operations, resulting in disruptions or even complete shutdowns. For example, extreme weather events may damage infrastructure, disrupt supply chains, or force temporary or permanent office closures. As a consequence, businesses may face higher costs, reduced productivity, or lost revenue, which in turn can impact their financial stability and overall profitability. Financial institutions and investors must consider the operational risks posed by physical climate risks when assessing the stability and long-term prospects of their investments.

The direct impact of climate change-related events on a company's operations can subsequently influence market and credit risks, which can further affect the company's financial health and stability. Here are some examples of how operational risk may connect with market and credit risk in the context of physical climate risks.

Impact on market risk: Operational disruptions caused by physical climate risks, such as extreme weather events or natural disasters, can lead to reduced production, disrupted supply chains, or increased costs for a company. These operational issues can negatively impact the company's profitability and financial performance, which in turn can affect the market value of its stocks, bonds, or other financial instruments. As a result, investors and financial institutions may perceive the company as a higher-risk investment, potentially leading to a decline in the market value of its assets.

Impact on credit risk: Operational disruptions caused by physical climate risks can also affect a company's ability to meet its financial obligations. If a company suffers significant losses due to climate-related events, it may struggle to generate enough revenue to cover its operational expenses and debt repayments. This could increase the likelihood of default on its loans or bonds, leading to higher credit risk for its lenders and investors. Additionally, if a company's operations are severely affected by physical climate risks, its credit rating may be downgraded, making it more challenging for the company to secure new financing or refinance existing debt.

In some cases, the interconnected nature of operational, market, and credit risks can create a domino effect, where an issue in one area exacerbates problems in the other areas. For example, a company that suffers operational disruptions due to physical climate risks may experience a decline in its market value, which in turn can make it more challenging for the company to raise capital through equity or debt issuance. This could further strain the company's financial position, increasing its credit risk and potentially leading to a downward spiral.

By understanding the interconnections between operational, market, and credit risks in the context of physical climate risks, companies, financial institutions, and investors can develop more comprehensive risk management strategies to mitigate the potential negative impacts of climate change-related events on their investments and operations.

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