How TCS Can Help Support the Federal Reserve Board’s Upcoming Financial Industry Climate Scenario Stress Tests

The Federal Reserve Board has announced a program for its first ever pilot on climate scenario stress testing.??The pilot will start-off with six leading banking and finance institutions in early 2023 per a September 29, 2022, press release. This pilot has, among other things, created an immediate need for specialized data sets, analytical models, and solutions to enable climate scenario forecasting required for accurate stress testing. ?In anticipation of increasing demand for diverse climate reporting TCS has been partnering with climate scenario forecasting and simulation programs for quite some time now through its analytics ready TCS Intelligent Urban Exchange? (IUX) solution.?This forethought places TCS in great position to support the Federal Reserve Board’s proposed climate stress test.

While this financial exercise is a first for the U.S. there is precedence for this unique kind of stress testing. The past several years the European Central Bank, and the Bank of England have run this type of exercise. The Bank of Canada also took up a similar pilot with six financial entities during the 2022 calendar year. Other geographies, including Japan and Hong Kong have also been undertaking financial institution climate risk assessments. By joining the above group of countries who have engaged in climate scenario stress testing to date the U.S. Federal Reserve Board will bring even more rigor and clout to green banking in general, and this type of exercise specifically. ?

The increased visibility and acceptance of climate scenario stress assessments has motivated various environmental standard setting bodies to get behind the effort and strongly back it. For example, the supervisory association Network of Greening Financial System is coordinating the global initiative for climate related scenario testing. ?Other standard setting bodies working with this exercise include the Taskforce on Climate-related Financial Disclosures (TCFD) setup under aegis of the Financial Stability Board (FSB).?Additionally, last year preeminent global Banking, Financial Services and Insurance (BFSI) industry supervisory bodies such as the Bank of International Settlement (BIS), the International Organizational of Securities Commissions (IOSCO) and the International Association of Insurance Supervisors (IAIS), have also added their perspective on climate risk management and stress testing in their guidelines for their respective banking, securities and insurance oversight constituent oversight institutions (i.e. the Federal Reserve, Security and Exchange Commission, and similar international institutions). And finally, the International Financial Reporting Standards (IFRS) sponsored International Sustainability Standards Board (ISSB) is adding these climate test components in its update to accounting standards, and security commissions in jurisdictions such as the Security & Exchange Commission (SEC) in the USA.?By incorporating climate scenario assessments as part of market disclosure requirements the ISSB is making them a de facto imperative, and the Federal Reserve Board in adopting and piloting stress testing climate scenario resilience on selected US banks and financial institutions will accelerate the acceptance and adoption rates of these protocols throughout the international finance community.

While the concepts and provisions of financial sector climate stress tests are becoming more recognized and accepted worldwide, there are challenges. ?A couple of critical recurring challenges experienced universally by banks and financial institutions is the absence of relevant test data, and the absence of an appropriate modeling framework. These challenges are exacerbated for global banking institutions, which are subject to climate risk scenario nuances that vary country by country. Since such international banks have significant exposures globally physical risk assessment is very important, but?it is extremely complex and difficult to consistently execute. They also face significant exposure to diverse jurisdictions with differing policies, innovations, and market factors, resulting in a confusing mélange of transition risks.

In an effort collect enough relevant data agencies and governmental entities are trying to curate specific climate hazard, and jurisdiction-specific policies and market data from the many disparate public systems currently generating massive amounts diverse metrics housed across physically and operationally disparate platforms making collecting, organizing, and leveraging a clean, normalized set of data extremely difficult. To help address this challenge specialized companies like dClimate have started providing micro zone level data services for climate forecasts to use in the modeling of physical risk impacts. Addressing Transition risk, however, requires intelligence gathering capabilities to not only help collate information on policies, but also gather public and customer sentiments pertaining to banks and financial institutions. The sentiment data must reflect the swath of stakeholders who define the markets in the respective jurisdictions of operation in order to generate useful insights.

Within the context above TCS’s Digital Software & Solutions (DS&S) focus on sustainability and climate risk is very useful. DS&S’s flagship solution for sustainability, TCS Intelligent Urban Exchange? (IUX), focuses on solving these data and modeling challenges.?IUX is pre-integrated with dClimate and Oasis LMF to provide climate data and climate loss models as a service for physical risk assessment. Climate data for target areas as small as 5x5 miles is available depending on the on nature of the risk being assessed. IUX also uses its climate intelligence gathering engine to generate sentiment scores among various stakeholders including customers, investors, counterparties, suppliers, competitors, regulators, communities, authorities, employees, and anyone whose outlook on climate linked performance of the institution has an impact on the transition risks of that institution. IUX has the capability to leverage the diverse data mentioned above to provide scenario-based modeling for insightful, metric driven transition risk assessments. These scenario models are more exhaustive than simpler approaches that use carbon price and decarbonization project outlays.

Given the preference for proprietary models by some organizations IUX can also be used as a powerful digital spine. This capability allows proprietary models to leverage IUX’s sustainable datastore, prepackaged library functions and self-serve visualization features.?Banks can also leverage this digital spine rather than off-the-shelf solutions to build customized climate scenario models for stress testing.

IUX’s features and its digital spine capabilities combined with prepackaged data on climate, macroeconomics, sentiment scores, and climate intelligence--gathered using AI/ML algorithm and IoT devices-- offer an unprecedented tool set for organizations to quickly launch their own climate scenario stress test programs.

About Tata Consultancy Services

Tata Consultancy Services (TCS) is an IT services, consulting and business solutions organization that has been partnering with many of the world’s largest businesses in their transformation journeys for over 50 years.?TCS’ proactive stance on climate change and award-winning work with communities across the world have earned it a place in leading sustainability indices such as the MSCI Global Sustainability Index.

TCS Intelligent Urban Exchange? (IUX) for sustainability is an enterprise software solution from TCS Digital Software & Solutions. It is an advanced AI and ML powered solution that delivers comprehensive insights, recommendations, and metrics for environmentally clean organizational and value chain operations. The aggregate system-wide impact of TCS IUX for sustainability results in substantial emissions reduction, cost savings, and resource conservation. while also advancing corporate environment stewardship, compliance, and social responsibility.

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About the Author:

Dwarika Mishra is Head of Product Management at TCS and a specialist in sustainable operations.