Sustainability Atlas
Climate Finance & Markets·13 min read··...

Data story: the metrics that actually predict success in Climate risk stress testing & scenario regulation

The 5–8 KPIs that matter, benchmark ranges, and what the data suggests next. Focus on implementation trade-offs, stakeholder incentives, and the hidden bottlenecks.

In November 2024, the European Central Bank's landmark "Fit-for-55" climate stress test revealed that 110 banks, 2,331 insurers, and over 22,000 investment funds face potential losses exceeding €630 billion under the most severe adverse scenarios—nearly 90% higher than baseline macroeconomic conditions. This exercise, covering eight years of projections, marked the first time regulators integrated both transition and physical climate risks into a unified EU-wide stress test framework. Meanwhile, the Network for Greening the Financial System (NGFS), representing 141 central banks and supervisors globally, released Phase V scenarios in late 2024, establishing new benchmarks for how financial institutions must quantify and disclose climate-related financial risks. The era of voluntary climate risk assessment has definitively ended; what follows is a regulatory regime demanding rigorous, standardized, and actionable stress testing metrics.

Why It Matters

Climate risk stress testing has transitioned from an exploratory exercise to a regulatory mandate with material capital implications. The ECB's 2025 EU-wide stress test integration demonstrated that physical climate risks alone can deplete CET1 capital ratios by 77 basis points beyond standard adverse scenarios, while transition risks in energy-intensive sectors can increase default probabilities by 3.6 to 5.4 percentage points.

For investors, these metrics translate directly into portfolio valuations. Academic research from 2024 shows that under climate stress scenarios, approximately 5% of sampled firms face asset devaluations exceeding 30%, while 16% see probabilities of default drop below investment-grade thresholds. The most affected sectors—mining, transportation, and heavy industry—experience asset devaluations of 15-36% and probability of default increases of 5-34%.

The financial stakes are substantial. Climate-related damages are projected at $1.7-3.1 trillion annually by 2050, requiring $230 trillion in investment to achieve net-zero targets. Financial institutions that cannot accurately model these risks face both regulatory penalties and stranded asset exposure. The Bank of England's 2025 Climate Financial Disclosure confirmed that while the UK banking system currently has sufficient capital to absorb climate losses, this assessment hinges entirely on the accuracy of underlying stress testing methodologies.

Key Concepts

Climate risk stress testing operates across two fundamental risk categories that require distinct analytical frameworks and data infrastructure.

Transition risk encompasses financial impacts from policy changes, carbon pricing mechanisms, technology shifts, and market revaluations during the low-carbon transition. The NGFS scenarios model these through carbon price trajectories, with Net Zero 2050 scenarios projecting 1.97% reductions in world GDP from chronic physical risk versus baseline, escalating to 2.86% under delayed transition pathways.

Physical risk divides into acute events (floods, hurricanes, wildfires) and chronic changes (temperature rise, sea level rise, precipitation pattern shifts). The ECB's methodology assesses these at the asset level, requiring geographic exposure data classified by NUTS regions in Europe and equivalent granularity elsewhere.

Scenario architecture follows the NGFS framework organizing outcomes into three categories: Orderly (early, gradual climate policies with low transition and physical risks), Disorderly (delayed or fragmented policies creating high transition risks), and Hot House World (insufficient action producing high physical risks). The most adverse "Fragmented World" scenario combines both risk types, projecting 2.4°C warming by 2050.

Time horizons vary significantly by regulatory purpose. Short-term scenarios (3-5 years), first released by NGFS in 2025, address policy-relevant analysis of near-term tail risks including supply chain disruptions. Long-term scenarios (30 years) underpin most supervisory exercises, extending projections to 2050 and beyond.

Key Performance Indicators by Sector

SectorPrimary KPIBenchmark RangeData Source
BankingCET1 Capital Depletion50-150 bps under stressECB Stress Test 2025
BankingCarbon Intensity (Scope 1-3)<100 tCO2e/€M revenueTCFD Guidelines
InsurancePhysical Risk Claims Ratio5-15% increase under RCP 4.5EIOPA Guidelines
Investment FundsCarbon VaR10-25% of NAV at riskJupiter Intelligence
Real EstateAsset Devaluation15-30% for high-exposure propertiesFirst Street Foundation
EnergyStranded Asset Exposure<20% of portfolioCarbon Tracker
ManufacturingTransition Risk Score1-5 scale (NGFS-aligned)MSCI ESG
AgricultureCrop Yield Volatility±15-40% under drought stressAQUAOSO

What's Working

Regulatory Convergence

The Basel Committee's June 2025 voluntary framework for climate risk disclosure has accelerated methodological standardization across jurisdictions. Over 90% of European banks now consider themselves materially exposed to climate risks, compared to just 50% in 2021, indicating successful supervisory pressure.

Technology Integration

Machine learning models for climate risk quantification have matured significantly. Jupiter Intelligence's ClimateScore Global platform now provides 22,000+ peril and loss metrics with projections extending to 2100, while XDI's Climate Risk Engines deliver sub-asset level data validated by central banks for regulatory stress tests. These tools enable granular analysis previously impossible with traditional actuarial approaches.

Data Infrastructure Improvements

The convergence of satellite imagery, IoT sensors, and climate models has dramatically improved physical risk assessment. ICEYE's synthetic aperture radar satellites, funded with $65 million in December 2024, provide real-time flood monitoring that feeds directly into stress testing models. First Street's physics-based deterministic models now cover structure-level damage projections for US real estate.

Scenario Standardization

NGFS scenarios have achieved widespread adoption, with 54 climate stress tests completed or in progress across 36 jurisdictions as of 2024. This standardization enables cross-border comparability and reduces duplicative methodology development.

What's Not Working

Data Quality Gaps

Despite progress, approximately 60% of banks still lack well-integrated climate risk frameworks according to ECB 2022 findings. Banks heavily rely on proxies for Scope 3 emissions data, creating significant uncertainty in counterparty exposure calculations. The South African Reserve Bank's 2024 Climate Risk Stress Test explicitly identified data and capacity shortcomings as primary vulnerabilities.

Physical Risk Modeling Uncertainty

The December 2025 retraction of the Kotz et al. (2024) damage function—originally integrated into NGFS Phase V—highlights persistent methodological challenges. This paper had projected 15% global GDP loss by 2050 from 2°C warming, three times larger than previous estimates. The retraction (due to data errors in Uzbekistan economic data and spatial auto-correlation issues) means all "Integrated Physical Damages" scenarios require revision, with updated long-term scenarios not expected until end of 2026.

Short-Term Focus Mismatch

Most supervisory stress tests examine 30-year horizons, yet capital allocation decisions operate on 3-5 year cycles. The NGFS short-term scenarios released in 2025 partially address this gap, but integration into bank planning processes remains nascent.

Model Validation Challenges

Climate stress testing models lack the historical backtesting available for traditional financial risk models. Unlike credit risk models validated against decades of default data, climate models must project unprecedented physical and policy conditions.

Key Players

Established Leaders

MSCI Climate Solutions provides climate metrics covering nearly 20,000 issuers, used by 43 of the top 50 global asset managers. Their platform integrates carbon emissions measurement, physical and transition risk analytics, and GeoSpatial Asset Intelligence, leveraging 50+ years of sustainability data.

Moody's Climate Risk Management combines their 2021 RMS acquisition (30+ years of catastrophe modeling) with Four Twenty Seven's physical and transition risk capabilities. Their platform provides credit impact scores for 15,000+ rated entities across 70+ countries with 18,000 macroeconomic variables.

S&P Global offers Trucost environmental data and sustainable finance solutions, providing standardized metrics for transition risk assessment aligned with EU Taxonomy requirements.

FIS launched their Climate Risk Financial Modeler in 2024 in partnership with PwC, delivering SaaS-based weather-related peril modeling across local and global scales for corporations and financial institutions.

Emerging Startups

Climate X (UK) raised $18 million in Series A funding in June 2024 led by Google Ventures, offering their Spectra platform with 500 trillion+ data points covering 16 climate hazards through AI and digital twin technology.

Jupiter Intelligence (US) provides ClimateScore Global with AI-powered analysis across 22,000+ metrics, recently launching their MRM Accelerator for regulatory model validation.

XDI (Cross Dependency Initiative) (Australia) was named market leader in the Forrester Wave™ Climate Risk Analytics 2024, providing stress testing tools used by ECB and multiple central banks.

Climafin (Europe) collaborates directly with NGFS on scenario development, conducting pilot stress tests for EIOPA, EBA, Swiss National Bank, and Monetary Authority of Singapore.

Unwritten (UK) raised $3.5 million in seed funding in April 2024 led by Connect Ventures, specializing in macroeconomic climate transition modeling using big data analytics developed by an ex-Palantir team.

Key Investors & Funders

Breakthrough Energy Ventures deployed a $555 million "select" fund in January 2024 focused on hard tech emissions reduction, with portfolio companies including Pachama and Heirloom in carbon removal.

Google Ventures led Climate X's Series A, signaling major tech platform interest in climate risk infrastructure.

CommerzVentures actively invests in climate fintech, backing Climate X and multiple stress testing software providers.

World Fund closed a €300M+ first fund in April 2024 focused on European climate technology.

SOSV deployed a $306 million climate tech fund in April 2024 targeting early-stage innovation.

Examples

1. ING Group's NGFS Scenario Integration

ING Group, the Netherlands-based global bank, implemented comprehensive NGFS scenario analysis across their €650 billion loan portfolio starting in 2023. By integrating Climate X's Spectra platform with their internal credit risk models, ING achieved asset-level physical risk quantification for over 80% of their commercial real estate exposures. Their 2024 disclosure revealed that under delayed transition scenarios, 12% of their energy sector loans faced probability of default increases exceeding investment-grade thresholds, prompting accelerated engagement with high-carbon counterparties and €2.3 billion in portfolio reallocation toward transition finance.

2. Munich Re's Physical Risk Modeling

Munich Re, the world's largest reinsurer, pioneered integration of high-resolution climate analytics into their underwriting models. Using Jupiter Intelligence's ClimateScore platform combined with proprietary catastrophe models from their NatCatSERVICE database, Munich Re now prices physical climate risk with sub-kilometer precision. Their 2024 annual report disclosed that climate-adjusted pricing increased premiums by 15-35% for high-exposure property portfolios in Florida and California, while their stress testing showed potential €8 billion in additional claims under NGFS Hot House World scenarios by 2050.

3. Bank of England's Climate Biennial Exploratory Scenario

The Bank of England's CBES, conducted across 2021-2022 and updated through 2025 disclosures, tested the UK's largest banks and insurers against three scenarios: Early Action, Late Action, and No Additional Action over a 30-year horizon. While acknowledging significant uncertainty, the exercise revealed that projected climate losses could consume 10-15% of annual profits for major UK banks under adverse scenarios. Critically, the Bank identified that transition costs are "substantially lower if early action is taken," providing empirical support for proactive decarbonization strategies in credit portfolios.

Action Checklist

  • Assess current data infrastructure: Audit Scope 1, 2, and 3 emissions data availability for top 100 counterparties; identify reliance on proxies and prioritize primary data collection for material exposures
  • Implement NGFS scenario framework: Download latest Phase V scenarios from NGFS portal; map transition variables to internal sector classifications; validate against ECB/EBA methodological guidance
  • Establish geographic exposure mapping: Geo-locate physical assets using NUTS classification (EU) or equivalent; integrate with climate hazard layers for acute and chronic risks
  • Select and validate climate analytics provider: Evaluate XDI, Climate X, Jupiter Intelligence, or Climafin based on regulatory alignment requirements; prioritize providers with central bank validation track records
  • Integrate with ICAAP processes: Incorporate climate stress testing outputs into Internal Capital Adequacy Assessment Process; document methodology for supervisory review
  • Prepare for ISSA 5000 assurance requirements: Review sustainability assurance standards effective December 2026; engage external auditors on climate disclosure verification readiness
  • Build internal capability: Train risk management teams on NGFS scenario interpretation; develop climate risk appetite statements aligned with board-approved transition strategies
  • Monitor regulatory evolution: Track ESAs guidelines expected early 2026; prepare for Basel Committee voluntary framework domestic implementation

FAQ

Q: How do climate stress testing requirements differ between US and EU jurisdictions? A: The EU has adopted a more prescriptive approach through ECB supervisory expectations with explicit end-2024 compliance deadlines, while the US relies primarily on the NY Fed's CRISK methodology and principles-based guidance. EU requirements demand integrated physical and transition risk assessment using NGFS scenarios, while US regulatory focus has emphasized disclosure over capital adequacy impacts. SEC climate disclosure rules complement but do not replace stress testing requirements. Financial institutions operating across jurisdictions should implement the more stringent EU framework as baseline, adapting for local regulatory specificities.

Q: What time horizon should stress testing cover for capital adequacy purposes? A: Regulatory stress tests typically require 30-year horizons extending to 2050 for strategic planning, but the NGFS short-term scenarios (2024-2030) released in 2025 are increasingly relevant for capital allocation decisions. Best practice involves running both time horizons: long-term scenarios inform strategic transition planning and counterparty engagement, while short-term scenarios drive near-term capital budgeting and risk appetite calibration. The mismatch between 30-year climate projections and 3-5 year credit cycles remains a key implementation challenge requiring management judgment.

Q: How reliable are current physical risk models given the Kotz et al. retraction? A: The December 2025 retraction primarily affects long-term GDP damage estimates in NGFS Phase V scenarios, but transition risk outputs and acute physical risk modeling remain valid. Institutions should continue using transition variables (carbon prices, emissions pathways, energy mix projections) from Phase V while treating long-term physical damage estimates as indicative rather than precise. Focus on high-confidence physical risk indicators: flood exposure from hydrological models, wildfire risk from vegetation indices, and heat stress from climate projections. NGFS will publish revised long-term scenarios by end of 2026 with updated physical risk methodology.

Q: What minimum data requirements are needed to implement credible climate stress testing? A: At minimum, institutions require: (1) Scope 1 and 2 emissions data for material counterparties with sector proxies for Scope 3, (2) geographic coordinates for physical asset exposures, (3) sectoral classification aligned with carbon-intensive industry definitions, (4) counterparty transition plans where available, and (5) internal financial projections under stress. The ECB's experience indicates that institutions with less than 70% primary emissions data coverage face significant model uncertainty. Start with available data while building toward comprehensive counterparty disclosure.

Q: How should investment funds approach climate stress testing differently from banks? A: The ECB's Fit-for-55 exercise revealed investment funds as particularly vulnerable, with potential losses up to 25% of asset values including second-round effects. Unlike banks with direct lending relationships, funds must model portfolio-level exposures across liquid securities. Key differences include: (1) mark-to-market rather than credit loss approaches, (2) emphasis on transition risk through carbon VaR methodologies, (3) consideration of redemption pressures during climate stress events, and (4) manager selection criteria for climate risk integration. Funds should prioritize carbon intensity metrics and physical risk exposure mapping at the portfolio level.

Sources

Topics

riskstressMRVcapexgreen bondsISSBstandards

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