ECB warns banks not to underestimate climate and nature risks

The European Central Bank has published an updated compendium of good practices for managing climate and nature risks (C&N) of banks. The main message from Frank Elderson (Executive Board / Supervisory Board Vice-Chair): banks have progressed, but still underestimate physical and nature risks.

Key warnings:

- measuring physical and nature-related risks is "still in their infancy"

- ECB expects a "disorderly transition scenario" with higher uncertainty

- banks must be prepared for a faster and larger transition as well as physical risks

The compendium draws on the practice of 60+ institutions and focuses on 4 areas where banks struggle – i) quantification of physical risk (from qualitative to quantitative approaches), ii) prudential transition planning, iii) scenario analysis and iv) nature-related risks.

Good practices for transition planning include according to the ECB:

- Develop transition finance products for high-emission sectors (instead of abandoning clients)

- Active engagement with high‑risk clients – not just higher prices or withdrawal from the market

- Tolerance for temporarily lower margins or price incentives for transition technologies

Good practices for nature‑related risks:

- Proactive engagement with clients (data, exposure, nature‑related products/advisory)

- Integration of nature risks into ICAAP (Internal Capital Adequacy Assessment Process)

- Use of public tools and datasets to move from qualitative to quantitative assessment

What to take away?

1. The end of the lighter era of transition planning. The ECB clearly signals that transition plans of banks under prudential supervision will become an increasingly intensive part of supervision.

2. Nature risk as the next frontier. After climate, biodiversity and ecosystem services follow. Many banks remain unprepared – lacking data, methodologies and internal expertise.

3. Key message for banks: "Do not abandon clients in high‑emission sectors." Transition financing is a better path for the ECB than divestment from heavy industry. This is an important signal for the Czech Republic – where the Czech concentration in energy‑intensive sectors (steel, chemicals, glass) means that banks must be an active partner in the transformation, not withdraw from it.

4. For investors: If you hold European bank shares, C&N risk management capability may be another differentiating factor. ECB stress tests will be stricter in the coming years and capital requirements reflecting C&N exposures will start to play a role.

Source: ESG Today / European Central Bank