ESG Risk and Compliance
Level 1 — Risk Taxonomy · TCFD Implementation · Physical Risk Assessment · Transition Risk Modelling

This unit covers the climate risk taxonomy as defined by the TCFD and extended by the ECB in its supervisory expectations for climate risk management. The TCFD taxonomy distinguishes physical risks (acute and chronic) from transition risks (policy, technology, market, and reputational); the ECB taxonomy adds liability risk as a third primary category. The unit establishes the Track 5 reference taxonomy and maps it to the terminology used in TCFD disclosures, ISSB S2 disclosures, ECB supervisory expectations, and the NGFS scenario framework, so that learners can navigate between these frameworks without confusion.

This unit covers the transmission channels through which acute physical risks (extreme weather events including floods, storms, wildfires, droughts, and heatwaves) affect the financial statements of a commercial bank. The primary channels are: collateral impairment (physical assets securing loans lose value when damaged, reducing recovery value), counterparty credit deterioration (borrowers experience reduced income or operating disruption), operational disruption (bank branches, data centres, and operational facilities are damaged), and insurance cost inflation. Each channel is mapped to the specific balance sheet line items and income statement items affected, using a stylised bank balance sheet with specific sector and geographic exposures.

This unit covers the transmission channels through which chronic physical risks — gradual temperature increase, sea level rise, changing precipitation patterns, and increasing water stress — affect a bank's balance sheet over a multi-decade horizon. Primary channels include: real estate value decline in areas exposed to sea level rise or chronic flooding, agricultural productivity decline in water-stressed or heat-stressed regions, energy cost increases from reduced hydroelectric generation, and population migration away from climate-stressed regions. The unit introduces the concept of vintage risk (risk embedded in loans originated today that will crystallise over the full loan lifetime) as a complement to standard point-in-time risk measurement.

This unit covers the transmission channels through which policy, technology, market, and reputational transition risks affect a bank's loan book and investment portfolio. Policy transition risks include carbon pricing, mandatory energy efficiency standards, fossil fuel subsidy removal, and mandatory transition plan disclosure. Technology transition risks include the declining cost of renewable energy, electric vehicle adoption, and building energy efficiency retrofits. The market transition risk channel covers the impact of changing investor sentiment and consumer preferences on borrower revenues. Reputational transition risk covers the impact on the financial institution itself — a bank with large fossil fuel lending exposure may face depositor and investor pressure affecting its funding costs and equity valuation.

This unit covers climate liability risk — litigation risk from shareholders or regulators claiming the institution failed to disclose material climate risks, legal risk from financing activities later found to have contributed to specific climate damages, and reputational risk from activist campaigns — and guides learners through the module capstone. The balance sheet mapping exercise requires learners to select one of three institution types (commercial bank, insurance company, or asset manager), map hypothetical balance sheet exposures across the risk taxonomy, and produce a heat map showing which balance sheet line items are most exposed to each risk category under a medium-term time horizon. The heat map is the capstone deliverable and the starting point for quantitative risk assessment in subsequent modules.

This unit covers the TCFD framework architecture as it applies specifically to financial institutions, which TCFD treats as a distinct category from non-financial companies due to the indirect nature of their climate risk exposure — primarily through lending and investment rather than direct operations. The TCFD supplemental guidance for banks and insurers specifies additional considerations for the strategy and metrics sections, and the unit covers these sector-specific requirements. The connection between TCFD and ISSB S2 is established in full: ISSB S2 incorporates all TCFD recommendations and adds quantitative requirements for cross-industry metrics. The unit maps the four TCFD thematic areas to the specific ISSB S2 paragraphs that incorporate each element, identifying where ISSB S2 extends beyond TCFD.

This unit covers the drafting of the board oversight section of the TCFD governance disclosure. The disclosure must document: which board committee has oversight responsibility for climate risk, how the board receives information about climate risks and opportunities, how the board oversees the setting of targets related to climate, and how climate considerations are reflected in board-level strategic decisions. The unit works through the drafting exercise using the case bank's governance structure, providing a Management-level draft and an enhanced Leadership-level draft for each disclosure element, illustrating the specificity required for a disclosure that satisfies institutional investor scrutiny.

This unit covers the management responsibility section of the TCFD governance disclosure, documenting the senior management roles with explicit climate risk accountability and the processes for managing climate-related risks across the institution. The integration of climate risk into performance evaluation is a specific element that attracts institutional investor scrutiny — TCFD guidance notes that organisations with climate-related performance metrics in senior management remuneration have stronger governance accountability. The unit covers how to document the remuneration linkage (or explain its absence) and how to describe performance evaluation criteria for climate-related responsibilities without claiming more accountability than the organisation's incentive structure actually creates.

This unit covers the strategy section of the TCFD disclosure, focusing on the strategic resilience assessment. TCFD requires that organisations describe the resilience of their strategy under different climate scenarios, including a 2 degrees Celsius or lower scenario. The strategic resilience assessment must cover: the scenarios used (at minimum, one below 2 degrees Celsius and one higher-warming scenario), the time horizons, the specific risks and opportunities identified under each scenario for the bank's key business lines and lending portfolios, and the conclusions about strategic resilience. The unit covers how to present scenario analysis results at the level of narrative specificity required without requiring the full quantitative rigour of the NGFS scenario modelling covered in Module 2.1.

This unit covers the financial planning integration element of the TCFD strategy disclosure and the ISSB S2 interoperability mapping. The financial planning integration disclosure documents how climate risks and opportunities are incorporated into the bank's capital planning cycle, risk appetite framework, lending strategy, and product development process. The ISSB S2 mapping table identifies: elements that directly satisfy ISSB S2 requirements with the same disclosure content, those requiring minor additional data points, and those where ISSB S2 requires genuinely additional disclosures beyond TCFD — most significantly, the quantitative financial impact disclosures and industry-based metrics. The capstone deliverable is the complete governance and strategy disclosure draft for the case bank.

This unit covers the data collection requirements for a location-based physical risk assessment and the navigation of the primary climate risk datasets. Location data challenges cover obtaining geographic coordinates of assets securing each loan and dealing with incomplete location data using proxy locations. The climate dataset navigation covers the four primary sources used in the module: WRI Aqueduct Water Risk Atlas (flood risk and water stress scores at 500-metre resolution under RCP 4.5 and 8.5), the Copernicus Climate Change Service (temperature and precipitation projections), the European Flood Awareness System (EFAS), and national equivalents (FEMA National Flood Hazard Layer for US locations). For each dataset, the unit covers the access method, spatial resolution, temporal coverage, and limitations that must be acknowledged in the risk assessment.

This unit covers the flood risk hazard assessment covering both riverine (fluvial) flood and coastal flood (including tidal surge and sea level rise components). The riverine flood assessment uses WRI Aqueduct's riverine flood risk scores, covering the interpretation of the score scale (1 to 5), the difference in scores under RCP 4.5 and RCP 8.5, and the practical implications of the difference — many locations show minimal change between scenarios by 2030 but significant divergence by 2050 and 2080. The coastal flood assessment applies IPCC AR6 regional sea level projections to adjust current coastal flood exposure for projected sea level rise, worked through for two coastal locations in the case portfolio illustrating the interaction between asset location and existing flood protection infrastructure.

This unit covers the heat stress and water stress hazard assessment for the portfolio assets. Heat stress affects different asset types through different mechanisms: for residential real estate, increasing cooling energy costs; for commercial real estate, worker productivity and building operating costs; for agricultural land, crop yields and livestock productivity. Copernicus Climate Change Service data provides mean temperature and extreme heat event frequency projections scored on a heat stress scale. Water stress assessment uses WRI Aqueduct's baseline and projected water stress indicators, measuring the ratio of total water withdrawals to available renewable surface and groundwater supplies, worked through for the agricultural loan portfolio assets in the case bank.

This unit covers the vulnerability assessment and financial impact estimation steps. The vulnerability assessment applies vulnerability coefficients derived from published insurance industry damage functions and physical risk research, adjusting for asset type sensitivity. The financial impact estimation covers three channels: collateral value discount (reduction in secured property value attributable to physical risk, derived from hedonic pricing research on flood risk and property transaction prices), probability of default uplift (increase in borrower default probability from physical risk-related income disruption), and loss given default impact (reduction in recovery value from physical risk-damaged collateral). Each financial impact estimate is presented as a range reflecting the uncertainty in the underlying research.

This unit guides learners through the production of the asset-level risk heat map and the TCFD risk management disclosure for physical risk. The heat map is a ranked table of all portfolio assets by combined physical risk score (combining flood, heat, and water stress hazard scores weighted by asset vulnerability), showing the physical risk tier (low, medium, high, or very high) for each asset and estimated financial impact range, with assets in the top quartile of combined risk score flagged as requiring enhanced monitoring or risk mitigation action. The TCFD risk management disclosure documents the assessment methodology, key findings, and risk management actions taken or planned. The capstone deliverable is the complete asset heat map and the TCFD risk management physical risk section.

This unit covers the identification of carbon-exposed counterparties in a commercial bank's lending portfolio and the construction of the portfolio transition risk exposure map. The sector identification methodology uses NACE or GICS sector classification and applies a carbon intensity screen using published sector-average GHG intensity data from IEA and EPA sources, applying the carbon intensity thresholds used in ECB and Bank of England supervisory guidance (sectors above 100 tCO2e per million EUR of revenue classified as high transition risk). The unit introduces the concept of carbon-related assets (CRAs), which the ECB defines as assets linked to the extraction, processing, storage, and transportation of fossil fuels or energy production from fossil fuels — a key metric reported in ECB supervisory assessments.

This unit covers the revenue sensitivity modelling for an oil and gas exploration and production borrower under the IEA Net Zero Emissions by 2050 (NZE) scenario and the IEA Stated Policies Scenario (STEPS). The IEA NZE scenario projects global oil demand declining from approximately 97 million barrels per day in 2024 to under 25 million barrels per day by 2050. The supply cost curve analysis — the key analytical tool for oil and gas transition risk — identifies borrowers with production costs above the break-even price under the NZE scenario facing stranded reserves risk. The unit works through the cost curve analysis for two borrowers (a low-cost Gulf region producer and a high-cost oil sands producer), calculating revenue trajectory, EBITDA impact, and debt service coverage ratio to 2035 under each scenario.

This unit covers the carbon price stress test for a cement manufacturing borrower, illustrating the transition risk modelling approach for a sector where the primary driver is carbon pricing rather than demand reduction. Cement manufacturing generates CO2 both from energy combustion and from the calcination of limestone to produce clinker — a process emission that cannot currently be eliminated without carbon capture, typically accounting for 60 to 65 percent of total CO2 emissions. The stress test calculation covers: the borrower's annual production volume and emission intensity, Scope 1 emissions subject to carbon pricing under the applicable ETS, the carbon cost at each scenario price applying IEA NZE and STEPS trajectories, the impact on EBITDA and debt service coverage ratio, and the credit quality migration implied by the DSCR decline.

This unit covers the revenue sensitivity modelling for a coal mining borrower, which faces the most severe transition risk of any sector due to the combination of carbon pricing and the rapid displacement of coal-fired electricity by renewable energy — the IEA NZE scenario projects the elimination of unabated coal from electricity generation in advanced economies by 2030 and globally by 2040. The covenant threshold analysis calculates the year in which specific debt covenants (typically a minimum debt service coverage ratio of 1.2 times and a maximum net debt to EBITDA of 3.5 times) are breached under each scenario. The unit covers the risk management response options available to the bank when a counterparty approaches covenant breach: enhanced monitoring, covenant waiver or renegotiation, collateral enhancement, and orderly loan reduction.

This unit covers the aggregation of counterparty-level transition risk results across the portfolio and the preparation of the TCFD transition risk disclosure. The portfolio aggregation calculates: total outstanding exposure to counterparties in high-transition-risk sectors, the distribution of transition risk rating migration (number and volume of loans migrating from investment grade to sub-investment grade under each scenario), the expected credit loss uplift attributable to transition risk, and the portfolio concentration risk metrics. The TCFD transition risk disclosure documents the assessment methodology, sector coverage, carbon price scenarios applied, key findings, and risk management responses — including sector concentration limits, enhanced due diligence for new lending to high-transition-risk borrowers, and engagement with high-risk counterparties on transition plan development. The capstone deliverable is the counterparty-level transition risk model outputs and the TCFD transition risk disclosure section.