Green financial services products have gained prevalence during the past year; so much so that questions surrounding regulatory efforts, conflicting standards and changing approaches by financial institutions were at the forefront of attendees’ minds during a roundtable headed by Robin Penfold, TLT financial services partner.

The conversation began by focusing on the impact of green finance opportunities and risks for the retail financial services sector.

Attendees focused on the key themes, including the emerging regulatory framework for green retail financial services products; the emerging trend of including climate risk in the risk management framework; product development; and the role of legal teams in facilitating risk management and opportunities.

The emerging regulatory framework and driving forces for sector development

Penfold started the conversation with a brief overview of the key driving forces in the UK’s green finance strategy – climate risk assessment and compliance, and new product development.

The UK’s Green Finance Strategy draws the split between greening finance and financing green. Greening finance can be defined as mainstreaming climate and environmental factors as a financial and strategic imperative.

Penfold explains that one of the main challenges to fall under this label is the so-called “retrofit gap”. This refers to the fact that there is an abundance of property in the UK that does not meet environmental standards. Attendees agreed that closing the retrofit gap – by improving existing property in order to meet existing and emerging energy efficiency standards – is a key challenge.

Financing this change involves collaboration between the public and private financing sectors. Aligning private finance providers with these goals would help drive the UK financial services sector’s overall competitiveness and allow the UK to step into a position of leadership with respect to the global development of green finance.

The conversation then turned to the challenges posed by a multi-strand regulatory framework. As green finance and green financial services products continue to evolve on a global scale, there is an increased risk of conflicting standards as different initiatives are implemented (such as the EU Sustainable Finance Action Plan and enhanced disclosure standards across the EU and the UK).

Penfold marked the need for a UK-specific taxonomy, and an agreed set of standards and metrics for defining the sustainability characteristics of ‘green’ financial services products as a likely next step in regulatory development.

Attendees agreed on the need for established taxonomies and standards – in line with FCA objectives for the sector – in order to avoid confusion and divergence between devolved states, markets and legislative expectations of energy efficient standards of property. The hope is that the development of a UK-specific taxonomy will lead to further cohesion in the market, standardisation and better consumer outcomes.

Another attendee noted that standardising green credentials is also crucial to eliminating greenwashing and facilitating product development, as consumers increasingly look for financial products with an environmental focus.

As consumer appetite grows, how to present green finance products and educate customers on their environmental impacts becomes more important. Clear standards across the board would allow financial service providers to close the data gap in the retail market. This in turn may help to unlock the market further, facilitating green finance’s ongoing development.

Stress testing banks: implications for the green finance retail sector

One attendee noted a growing movement within central banks – particularly the European Central Bank and Bank of England – to begin stress testing banks on a number of climate and environmental indicators starting in 2021. This raised the question: can this impact how banks approach the retail market or is it restricted to the wholesale market?

Taken from a wholesale perspective, this trend would see financial institutions and financial service providers treating climate factors and indicators as credit and investment risks as part of their lending portfolios. This would necessarily affect the strategies employed in corporate lending, and could potentially affect the way banks and financial institutions participate in the retail finance sector.

“This is a space where the markets are not entirely joined up,” Penfold explains, highlighting that this is a space where the retail and wholesale markets should mirror each other. “If you take a mortgage product where the front end product is a mortgage going to a residential customer, but sat behind that is a securitisation vehicle or other wholesale funding structures, the approach of the market from that wholesale perspective has to match the retail market’s approach. Otherwise, there could be a conflict between retail and wholesale expectations of what constitutes a green financial services product.”

The increased need for green finance products in funding portfolios is in turn likely to create more competition within the sector, as residential mortgage lenders include a larger variety of green mortgages and green financial products in portfolios in an attempt to gain funding.

Climate risk as a component in risk management

Getting the governance framework right within financial institutions was also considered key in terms of facilitating the continued development of the market.

Penfold said there is an increased focus by boards on accounting for climate risks as part of their organisation’s wider risk management strategies. Attendees identified several key areas for organisations to consider when identifying and managing climate-related risks. One suggestion, for example, being that climate-related risks need to be embedded as a principal risk and risk drivers, alongside operational and credit risks.