EBA: draft technical standards on Pillar 3 disclosures of ESG risks
EBA: draft technical standards on Pillar 3 disclosures of ESG risks
Mon 17 May 2021
On 1 March 2021, the European Banking Authority (EBA) launched a public consultation on draft implementing technical standards (ITS) for Pillar 3 disclosures of environmental, social and governance (ESG) risks, under its capital requirements regulation (CRR) mandate. The consultation will end on 1 June 2021.
Large banking institutions with securities traded on a regulated market of any EU member state will be required to disclose prudential KPIs on the ESG risks facing their balance sheets, how these risks are being mitigated, and a green asset ratio (GAR) showing the alignment of financing with the EU taxonomy.
What are the EBA requirements?
The EBA will mandate disclosures across four main categories, as shown in the table below.
|1||Quantitative disclosures on transition risk||Banking book |
· Sector-level exposures to non-financial corporates and data on quality of exposures.
· Exposures to carbon-intensive sectors, across maturity buckets at and beyond five years.
· Exposures to loans collateralised with real estate properties split by collateral EPC level.
· Exposures to carbon-intensive sectors, CO2 emissions data and distance to the IEA Sustainable Development Scenario (2 degrees, expressed in percentage points).
· Exposures to the most carbon-intensive companies in the world, EU, or a home member state of the institution.
· Composition of the trading portfolio towards non-financial corporates split by sector, including absolute volume of sales and purchases of trading instruments.
Institutions will be expected to explain the methodologies they are developing to measure and estimate their Scope 3 emissions. They will need to disclose these emissions from June 2024.
Quantitative disclosure requirements on transition and physical risk will not cover sovereign exposures, trading assets for institutions with trading books below a certain threshold, or retail exposures beyond mortgages and motor vehicle loans.
|2||Quantitative disclosures on physical risk||Exposures in the banking book that are exposed to chronic and acute climate-related hazards. |
This includes exposures:
· towards non-financial corporates;
· on loans collateralised with the immovable property; and
· on repossessed real estate collaterals.
From June 2024, physical risk disclosures will require a more granular breakdown by type of climate-related hazards.
|3||Quantitative disclosures on mitigating actions||· Sector-level EU exposures across eligible assets listed, and (at a minimum) lending and equity exposures to non-EU counterparties.|
· Green Asset Ratio – volume and percentage of Taxonomy-aligned exposures, for both total stock of assets and assets originated within the current disclosure period.
· Other mitigating actions that do not meet the Taxonomy criteria, including actions to help counterparties in the adaptation and transition process.
GAR disclosures for exposures to non-NFRD corporates, and for retail mortgages and motor vehicle loans, will be required from June 2024. Additionally, for non-EU exposures, institutions will be expected to disclose a separate ‘non-EU GAR’ on a best-efforts basis, using estimates and ranges where necessary. Proxies and coefficients on sector-level taxonomy alignment should use estimates by an independent Commission body.
|4||Qualitative disclosures on ESG risks||Qualitative information on how ESG considerations are embedded within governance, business model and strategy, and risk management frameworks, in line with requirements outlined in the EBA’s 2020 discussion paper on management and supervision of ESG risks.|
The first set of disclosures will be due by 31 December 2022 and biannually after that (i.e. by 30 June and 31 December of each year). As shown in the table above, the EBA has adopted a proportionate approach by proposing a 2024 deadline for certain metrics.
The timeline and content of disclosures are aligned with the phase-in approach of the Taxonomy Regulation:
- From 28 June 2022, institutions must disclose quantitative information on climate risks under Pillar 3 disclosures on ESG risks – Taxonomy Regulation disclosures on climate change mitigation and adaptation are applicable from January 2022.
- Required disclosures on other environmental risks will be qualitative until after end-2022, when the relevant Taxonomy criteria become applicable.
- The EBA will mandate quantitative disclosure requirements for social risks if the Taxonomy is extended to include these.
What firms need to do now
1. Streamline and leverage processes relating to existing ESG regulations
The EBA’s expectations on sustainable finance disclosure do not exist in a vacuum. They are part of a suite of ESG regulation including (but not limited to) the Taxonomy Regulation, Sustainable Finance Disclosure Regulation (SFDR), revised Non-Financial Reporting Directive (NFRD) and ECB Guide on climate-related and environmental risks.
Complying with each regulation (where applicable) should not be a separate process. Overlaps must be exploited to ensure quality disclosures and limit the compliance burden. Some examples can be found below:
- Disclosure on Taxonomy-alignment of exposures is also a requirement under the Taxonomy Regulation.
- The ECB Guide contains expectations concerning business models and strategy, governance and risk management – the three areas covered in EBA qualitative disclosure requirements on ESG risks.
- Regulatory technical standards for SFDR, which the EBA co-wrote, will introduce advanced disclosure requirements from January 2022. These include carbon footprint and GHG intensity of investee companies, Scope 3 emissions (from 1 January 2023) and other environmental indicators, much of which will be invaluable to meeting the EBA’s requirements.
2. Review current reporting and processes for data collection
Banking institutions should review their existing reporting and internal data against the proposed disclosure requirements and formulate a plan to address the gaps by mid-2022.
Sector-level data on the volume of exposures may be readily available, but few institutions can currently disclose the required ESG-related metrics surrounding these exposures. They will need to implement robust processes for counterparty data collection and accuracy checks during onboarding and periodic reviews and locate appropriate third-party data sources where necessary.
3. Harmonise data and produce coherent metrics
Data will then need to be harmonised and aggregated to produce coherent metrics. Given the complexities and costs surrounding this process, institutions should start preparing now.
The past year has brought a shift in EU sustainable finance legislation, from guidelines to regulatory requirements, and the EBA’s expectations are yet another piece of the puzzle. These can be met with extensive preparation and an approach that considers the full scope of ESG requirements facing institutions – but time is of the essence.
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