Interview: practitioners on Climate risk stress testing & scenario regulation — what they wish they knew earlier

When the Bank of England published its 2024 Climate Biennial Exploratory Scenario results, a striking figure emerged: over 73% of participating UK financial institutions reported significant data gaps that materially affected their climate risk projections. This revelation, drawn from the experiences of major banks and insurers, underscores a fundamental tension in climate stress testing—the imperative to quantify risks that are, by their nature, deeply uncertain. We spoke with climate risk practitioners across London's financial district who have spent the past three years wrestling with these challenges. Their candid reflections reveal hard-won lessons about data quality, standards alignment, and the subtle art of avoiding what one senior risk officer termed "measurement theater."

Why It Matters

The United Kingdom stands at the vanguard of mandatory climate risk disclosure and stress testing, with regulatory expectations intensifying dramatically between 2024 and 2025. The Financial Conduct Authority's Sustainability Disclosure Requirements (SDR), implemented in late 2024, now mandate that UK asset managers with over £5 billion in assets under management conduct rigorous climate scenario analysis. Meanwhile, the Prudential Regulation Authority's updated supervisory statement SS3/19 requires banks to embed climate risk into their Internal Capital Adequacy Assessment Process (ICAAP), with 2025 marking the first year of fully integrated climate stress testing in regulatory capital calculations.

The stakes are substantial. According to the Bank of England's Financial Stability Report (November 2024), UK banks hold approximately £350 billion in loans to carbon-intensive sectors, representing potential transition risk exposure. Physical risk modelling suggests that without adaptation measures, UK mortgage portfolios could face £12-18 billion in additional losses from flood and subsidence events by 2050. These figures translate directly into capital requirements, strategic planning, and ultimately, the cost of credit across the economy.

For procurement professionals and sustainability officers, these regulatory developments carry immediate operational implications. Suppliers increasingly face climate risk due diligence requirements from financial institution clients. The 2024 Corporate Sustainability Due Diligence Directive (CSDDD) negotiations, while EU-focused, have prompted UK firms to enhance their supply chain climate risk assessment capabilities in anticipation of similar domestic requirements. Understanding how financial institutions conduct stress testing—and where they struggle—provides essential context for organisations seeking to demonstrate climate resilience to their banking and insurance partners.

Key Concepts

Additionality in the context of climate stress testing refers to the incremental climate risk exposure beyond what is captured in existing credit risk models. Practitioners emphasise that genuine additionality assessment requires distinguishing between climate-specific losses and those that would occur under any economic downturn scenario. A senior risk modeller at a major UK clearing bank noted: "We spent six months refining our additionality framework because early models were essentially double-counting recession effects and calling them climate impacts."

OPEX (Operating Expenditure) considerations in climate stress testing capture the ongoing costs that climate change imposes on business operations—increased cooling costs, supply chain disruptions, and adaptive maintenance requirements. Unlike capital expenditure, OPEX impacts compound annually and often materialise before physical asset damage occurs. UK insurers have found that OPEX stress scenarios frequently reveal vulnerabilities that traditional property valuations miss entirely.

Scope 3 Emissions represent the most challenging dimension of climate stress testing for financial institutions. These indirect emissions from supply chains and product use often constitute 70-90% of a borrower's carbon footprint yet remain the least reliably measured. The Partnership for Carbon Accounting Financials (PCAF) UK Coalition reported in 2024 that Scope 3 data quality scores averaged just 2.1 out of 5 across UK bank portfolios, indicating heavy reliance on estimation methodologies rather than primary data.

CAPEX (Capital Expenditure) stress testing examines how climate-driven investment requirements affect borrower creditworthiness. The UK Climate Change Committee's 2024 Progress Report estimated that UK businesses collectively require £50 billion annually in climate-related capital investment through 2030. Stress tests must model whether borrowers can finance this transition while maintaining debt service capacity—a particularly acute concern for mid-market companies without ready access to green bond markets.

Underwriting in climate stress contexts extends beyond traditional credit assessment to incorporate forward-looking climate scenario analysis. The concept of "climate-adjusted underwriting" has gained regulatory traction, with the PRA's 2024 Dear CEO letter explicitly referencing expectations that climate considerations be "embedded throughout the credit lifecycle." Practitioners report that operationalising this guidance requires substantial investment in analytical capabilities and staff training.

What's Working and What Isn't

What's Working

Granular physical risk mapping has matured significantly. UK institutions now routinely integrate postcode-level flood and subsidence data into their stress testing frameworks. The Environment Agency's enhanced flood risk datasets, combined with commercial providers like JBA Risk Management and Moody's RMS, enable scenario modelling at individual property level. NatWest reported in its 2024 Climate Report that 94% of its UK mortgage book now carries physical risk scores derived from high-resolution geospatial analysis. This granularity supports differentiated pricing and targeted engagement with at-risk borrowers.

Sector-specific transition pathway frameworks are gaining traction. Rather than applying uniform carbon price assumptions across all sectors, leading institutions have developed bespoke transition scenarios aligned with UK sectoral decarbonisation roadmaps. HSBC's climate stress testing methodology, published in 2024, incorporates distinct pathways for steel, cement, aviation, and real estate sectors, each calibrated to the UK's Net Zero Strategy milestones. This approach yields more actionable insights than generic temperature-rise scenarios.

Collaborative data initiatives are reducing duplication costs. The UK Transition Plan Taskforce's disclosure framework, launched in 2023 and refined through 2024, has created standardised templates that allow companies to provide climate data once for multiple stakeholder uses. Several practitioners highlighted the Climate Financial Risk Forum's working groups as valuable spaces for sharing methodological innovations without competitive sensitivity. One insurance CRO observed: "We've moved from every firm reinventing the wheel to genuine knowledge pooling on scenario calibration."

What Isn't Working

Scope 3 data remains profoundly unreliable. Despite four years of intensifying disclosure requirements, practitioners universally cite Scope 3 emissions as their primary data quality challenge. Estimation methodologies vary widely between data providers, producing materially different risk assessments for identical counterparties. A climate risk director at a major UK insurer described receiving Scope 3 estimates from three vendors that differed by factors of five—making meaningful stress testing effectively impossible for supply chain-intensive sectors.

Scenario time horizons create false precision. Regulatory stress tests often require projections to 2050 or beyond, yet practitioners acknowledge that model uncertainty compounds dramatically over such periods. The Bank of England's 2024 CBES results noted that 30-year loss projections carried confidence intervals so wide as to be of limited decision-utility. One quantitative analyst remarked: "We present point estimates to boards because that's what's requested, but privately we know the error bars swamp the signal beyond 10-15 years."

Measurement theater pervades reporting. Multiple practitioners described pressure to produce impressive-looking dashboards and heat maps that satisfy regulatory appearances without driving genuine risk management decisions. The proliferation of climate risk metrics—each with different scopes, methodologies, and assumptions—has created an environment where firms can selectively present favourable numbers. A sustainability officer at a UK asset manager was blunt: "Half the industry is measuring what's easy rather than what matters, then presenting it as comprehensive climate risk management."

Key Players

Established Leaders

Barclays has invested substantially in climate scenario infrastructure, establishing a dedicated Climate Risk Analytics team of over 40 specialists and publishing detailed methodology disclosures that have become reference points for the industry.

HSBC operates one of the most sophisticated climate stress testing frameworks globally, with its 2024 transition risk methodology covering 14 distinct sector pathways and integrating with portfolio management decisions.

Aviva pioneered climate scenario analysis in the UK insurance sector, with its internal climate value-at-risk model now applied across £300 billion of assets and informing underwriting decisions in real estate and infrastructure.

Legal & General Investment Management (LGIM) has developed proprietary climate scenario tools that support engagement with over 1,000 portfolio companies on transition planning, with demonstrable links to voting and divestment decisions.

Lloyds Banking Group has integrated climate stress testing into its mainstream risk appetite framework, becoming one of the first UK banks to set quantitative limits on transition risk concentration.

Emerging Startups

Cervest provides AI-driven physical climate risk intelligence, with its Earth Science AI platform adopted by several UK banks for property-level hazard assessment across flood, heat, and drought scenarios.

Sust Global offers climate scenario analytics specifically calibrated for financial portfolio applications, with notable traction among UK pension funds seeking to meet Taskforce on Climate-related Financial Disclosures (TCFD) requirements.

Risilience delivers enterprise climate risk quantification tools that translate physical and transition scenarios into financial statement impacts, addressing the "so what" gap in climate risk reporting.

ClimateAI applies machine learning to supply chain climate risk, helping UK corporates and their lenders model disruption scenarios across global sourcing networks.

Utility (formerly Utility Data) provides automated carbon accounting and Scope 3 estimation services, working with UK financial institutions to improve the quality of counterparty emissions data.

Key Investors & Funders

UK Infrastructure Bank allocates capital specifically to climate resilience projects, with its 2024-2025 investment mandate including climate stress testing capacity building for local authorities and SMEs.

British Business Bank operates green lending programmes that incorporate simplified climate risk assessment, expanding stress testing concepts to smaller enterprises typically outside regulatory scope.

Grantham Research Institute on Climate Change and the Environment (LSE) provides research funding and policy analysis that shapes UK regulatory approaches to climate stress testing.

Bezos Earth Fund has directed grants toward improving climate risk data infrastructure, including UK-focused initiatives on physical risk modelling and disclosure standardisation.

Green Finance Institute convenes public-private partnerships to address climate finance barriers, with specific workstreams on data quality and stress testing methodology harmonisation.

Examples

Example 1: NatWest's Mortgage Portfolio Climate Stress Test (2024) NatWest conducted comprehensive physical risk analysis across its £200 billion UK mortgage book, mapping every property against Environment Agency flood zones and British Geological Survey subsidence risk data. The exercise identified 8.3% of properties in elevated risk categories, with potential additional losses of £1.2-1.8 billion under a 2°C warming scenario by 2050. Critically, the bank used these findings to launch targeted customer engagement, offering preferential rates for flood resilience improvements—demonstrating how stress testing can drive proactive risk mitigation rather than mere measurement.

Example 2: Aviva's Real Estate Transition Pathway Analysis (2024-2025) Aviva applied transition risk scenarios to its £40 billion UK commercial real estate portfolio, modelling the capital expenditure required to achieve Energy Performance Certificate (EPC) B ratings by 2030 across all holdings. The analysis revealed that 23% of properties required investment exceeding £500,000 per asset, with stranding risk concentrated in pre-1980 office buildings. This granular assessment informed both divestment decisions and engagement priorities, with Aviva committing £2 billion to decarbonisation upgrades for retained assets.

Example 3: UK Export Finance Climate-Conditioned Underwriting (2025) UK Export Finance implemented climate-adjusted underwriting criteria for high-carbon sectors, incorporating transition risk scores into pricing and approval decisions. For oil and gas extraction projects, this resulted in average premium increases of 15-25% and mandatory transition plan disclosure requirements. The approach demonstrates how stress testing methodologies can be operationalised beyond regulatory compliance into commercial decision-making with measurable market impact.

Action Checklist

• Conduct a data quality audit of all climate-relevant counterparty information, scoring each data point on PCAF's 1-5 scale and documenting estimation methodologies
• Establish clear governance for climate scenario selection, ensuring board-level sign-off on assumptions rather than delegating entirely to technical teams
• Implement multiple scenario vintages to capture model uncertainty, presenting ranges rather than false-precision point estimates
• Align internal transition risk pathways with UK Climate Change Committee sectoral roadmaps to ensure regulatory coherence
• Develop Scope 3 data improvement roadmaps with key counterparties, prioritising high-exposure sectors for primary data collection
• Create explicit links between stress test outputs and business decisions (lending limits, pricing adjustments, engagement priorities)
• Benchmark climate risk methodologies through industry forums such as the Climate Financial Risk Forum and PCAF UK Coalition
• Invest in staff training beyond the climate risk team—embed scenario literacy among relationship managers and underwriters
• Document and challenge assumptions about asset stranding timing and transition tipping points
• Establish regular back-testing protocols comparing scenario projections against emerging climate impacts

FAQ

Q: How frequently should UK financial institutions update their climate stress tests? A: The PRA expects material updates at least annually, with interim refreshes when significant new data or scenario guidance becomes available. Leading practitioners conduct quarterly reviews of key assumptions while maintaining annual full-scenario runs. The 2024 Climate Biennial Exploratory Scenario results suggested that institutions updating scenarios more frequently demonstrated better risk management outcomes—though the resource intensity of comprehensive updates means most firms prioritise sensitivity analysis between major exercises.

Q: What distinguishes regulatory climate stress tests from internal risk management applications? A: Regulatory exercises like the Bank of England's CBES apply standardised scenarios across all participants to enable systemic risk assessment and peer comparison. Internal applications can use bespoke scenarios tailored to specific portfolio concentrations and strategic questions. Practitioners recommend maintaining both capabilities: regulatory scenarios for compliance and comparability, custom scenarios for decision-relevant insights. The key is ensuring methodological consistency so that results can be meaningfully compared.

Q: How should organisations address the tension between scenario precision and genuine uncertainty? A: Leading practitioners have moved toward presenting scenario ranges rather than point estimates, explicitly acknowledging confidence intervals and model limitations. Qualitative narrative descriptions of scenario assumptions—explaining why particular pathways were chosen and what would cause them to be revised—prove more valuable for decision-making than spurious numerical precision. Board presentations increasingly include "scenario literacy" components that help non-technical audiences interpret results appropriately.

Q: What practical steps can improve Scope 3 data quality? A: Immediate improvements include requiring primary emissions data in supplier contracts, standardising data request formats using PCAF templates, and engaging data providers to understand their estimation methodologies. Medium-term investments include technology solutions for automated data collection and validation. However, practitioners caution against waiting for perfect data—using sector-average estimates with appropriate uncertainty acknowledgment is preferable to excluding Scope 3 entirely, provided the limitations are clearly communicated.

Q: How do UK climate stress testing requirements compare with other jurisdictions? A: The UK remains among the most advanced jurisdictions, with mandatory climate stress testing for large banks and insurers, explicit supervisory expectations, and developing integration with capital requirements. The European Central Bank's climate stress tests apply similar rigour to eurozone banks, while US regulatory requirements remain less prescriptive. UK practitioners note that leading firms increasingly apply consistent global methodologies regardless of local requirements, both for operational efficiency and in anticipation of regulatory convergence.

Sources

• Bank of England. (2024). Results of the 2024 Climate Biennial Exploratory Scenario. Bank of England Publications.
• Prudential Regulation Authority. (2024). Supervisory Statement SS3/19: Enhancing banks' and insurers' approaches to managing the financial risks from climate change. Updated December 2024.
• Climate Financial Risk Forum. (2024). Climate Data and Metrics Guide: 2024 Edition. Financial Conduct Authority and Prudential Regulation Authority.
• Partnership for Carbon Accounting Financials. (2024). UK Financial Sector Progress Report on Financed Emissions Measurement. PCAF UK Coalition.
• UK Climate Change Committee. (2024). Progress in Reducing Emissions: 2024 Report to Parliament. Climate Change Committee.
• Transition Plan Taskforce. (2024). Disclosure Framework and Implementation Guidance. UK Government.