• Data Gaps Persist: Despite improvements, the ESG data landscape is still incomplete, impacting credit risk assessments.
• Methodological Maturity Varies: Standardization exists for corporate and mortgage portfolios but lags in other exposure classes.
• Standardization Challenges: A sequenced regulatory approach may be needed to standardize ESG risk assessment methodologies.

The European Banking Authority (EBA) has released a report highlighting advancements in the availability and accessibility of data used to assess environmental, social, and governance (ESG) risks. While progress is evident, significant gaps remain in the ESG data landscape.

The Details:

Key initiatives such as the Corporate Sustainability Reporting Directive (CSRD) and European Sustainability Reporting Standards (ESRS) are driving improvements, alongside increased transparency in ESG scoring and External Credit Assessment Institutions’ (ECAI) credit risk ratings.

Related Article: EBA Opens Consultation on ESG Risk Management Guidelines for Financial Institutions

Current Practices:

• Corporate Portfolios: The most advanced methodologies focus on transition risks using sector classification, greenhouse gas emissions, and counterparty transition plans.
• Mortgage Exposures: Some standardization exists, often relying on property location and energy efficiency.
• Other Exposure Classes: Methodologies remain underdeveloped, particularly in assessing broader environmental, social, and governance risks.

Challenges:

• Data quality, granularity, and availability remain hurdles.
• Most institutions focus on climate risk, with limited approaches to broader ESG risks.
• Governance risk assessments largely depend on qualitative judgment and lack standardization.

What’s Next:

“EBA’s findings indicate that a standardised methodology for identifying and qualifying ESG-related credit risks would require a tailored, step-by-step approach,” the report notes. Should regulatory efforts move toward standardization, a sequenced approach will likely be necessary to address varying maturity levels across risk types.

The Bottom Line:

While ESG data and methodologies have evolved, achieving a comprehensive and standardized approach to assessing ESG-related credit risks is still a work in progress.

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