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Terminology

To function properly, financial markets must have access to reliable information on climate change that is comparable and comprehensive.

When it comes to making educated and efficient capital-allocation choices, one of the most important responsibilities of financial markets is to estimate the cost of risks.

Operating and financial outcomes must be reported accurately and in a timely manner to achieve this. The physical and transitional effect of climate is one of the most pressing concerns that organisations are now confronting.

The Task Force on Climate-Related Financial Disclosures (TCFD) establishes a framework that assists corporations in voluntarily disclosing climate-related financial risks to investors, lenders, and insurers.

Frameworks are a collection of concepts and rules that govern the structure and preparation of information, as well as the major themes addressed.

TCFD was established in recognition that climate change poses a considerable danger to the global financial system, with a potential loss of up to USD $5 trillion.

The TCFD was formed by the Financial Stability Board (FSB), an international organisation formed with assistance from G20 member nations to strengthen global financial stability.

It was created to establish and improvise guidelines for efficient climate-related disclosures that could encourage more informed investment, credit, and insurance underwriting judgements and, consequently, enable stakeholders to better comprehend the concentration of carbon-related assets in the financial sector as well as the financial system's exposures to climate-related risks and uncertainties.

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Limitations of TCFD

While the framework is a pivotal point in the context of sustainable guidelines, several limitations emerge in relation to the framework.

No uniformity in disclosures

Given the flexibility of the TCFD principles, especially in terms of scenarios, corporate climate disclosures have differed widely amongst organisations. To achieve one of the primary aims of the TCFD framework, which is to allow more comparable and uniform disclosures, additional guidelines and standards are required on a sector-by-sector basis about how such exercises should be undertaken and reported upon.

Lack of data on climate physical risks

TCFD 2021 Status Report highlights that physical metrics, such as ‘weather-related losses for real assets’, are far less represented than emissions-related metrics and that the quantitative disclosure of potential impacts is “less common, and most often found for forward-looking transition risks than forward-looking physical risks”. Furthermore, “discussion of physical impacts was typically in the form of qualitative descriptions rather than quantitative information.”

It will become more important to develop new tools as more professionals undertake analysis across both forms of risk. It is also critical that parties working on these problems continue to share information.

Another issue that investors have when attempting to compare TCFD reports is that most of the material is qualitative rather than quantitative, making it difficult to convert to a spreadsheet.

Ineffective communication

More effort must be made to effectively communicate the financial benefits of climate resilience investments. Since resilient infrastructure may provide soft advantages that are recognised over a long period, defining, reporting and quantifying such benefits can be challenging. It is necessary to standardise important resilience indicators across economic sectors and other qualitative means of reporting the worth of such investments. Standardisation of major resilience indicators throughout economic sectors is also necessary.

Unclear Materiality

Companies want more clarity on what constitutes a "material" climate risk in their operations. The task force, regulators, and others thus need to work together to explain the problem of materiality for businesses in the context of climate change mitigation and adaptation.

Short-term data against long-term consequences

Climate forecasting is not without flaws; there is a high level of uncertainty in estimating the long term impacts of climate change and its impact on financial systems across different scenarios.

From scenario planning to financial impact

Companies are expected to take the results of climate scenario modeling and translate these to estimations models for financial risk modeling, business performance, and accordingly develop mitigation strategies, which must be stress-tested against various climate scenarios in order to be successful. It is challenging to identify and quantify physical dangers associated with climate change, particularly in the context of future risk. Companies with complicated worldwide supply chains will need to take into account the risks associated with certain geographical locations.

TCFD today

Since 2017, disclosure of climate-related financial information has risen, but progress must be maintained.

The TCFD presently has over 1,700 signatory organisations globally, including some of the top asset managers in the world. Approximately 60% of the world's 100 biggest public corporations either endorse the TCFD or report as per its guidelines.

The initial reaction to the framework has been overwhelmingly favorable; nevertheless, several discussions have revealed areas where enhancements to the framework should be made.

Several companies have expressed concern about the lack of creation of industry-specific 2°C warming scenarios and their need for additional direction on how to apply them. In its own admission, the TCFD recognises that this is a continuing process, but believes that wider adoption and enhanced openness will eventually result in higher reporting standards as well as a better understanding of the financial system's sensitivity to climate-related risks.

Global support for the Task Force's activities has increased dramatically in the last year.

Numerous countries have introduced or approved legislation and rules requiring disclosure per the TCFD guidelines, with some taking effect as early as 2022. The TCFD guidelines also serve as the foundation for developing global standards for climate risk disclosure by international accounting standard setters.

These changes occurred against the backdrop of a larger worldwide attention on climate-related risk, as the effects of climate change have continued to cause palpable and severe physical suffering.

Simultaneously, various governments and private sector groups are announcing voluntary commitments to shift to a low- or zero-carbon economy. Transparency on climate-related concerns is becoming more crucial for stakeholders.

One significant recent development is that TCFD will integrate the newly created ISSB.

On November 3 2021, the International Financial Reporting Standards Foundation (IFRS Foundation) officially announced the formation of the International Sustainability Standards Board (ISSB), with the goal of developing a new baseline for sustainability disclosures that would suit the expectations of investors.

The ISSB is the consolidation of the Climate Disclosure Standards Board (CDSB) and the Value Reporting Foundation or VRF. The latter itself comprises of Integrated Reporting Framework and SASB.

The ISSB will be supported by a Technical Readiness Working Group (TRWG) to develop disclosure requirements, based on the existing work of the TCFD.