Ratings firms struggle with climate risk in $133 trillion market
With 46 straight days of 100-degree heat and coastal waters approaching hot-tub temperatures, Miami can seem like a clear example of the costs of a warming world. But analysts at S&P Global Inc. aren’t sweating it.
They recently upgraded Miami’s credit rating, citing a robust tax base and labor market. The city’s “elevated” environmental risks, S&P says, are offset by mitigation projects such as those designed to counter rising sea levels.
As the world reels from the mounting impact of heat waves, droughts and fiercer storms, there is growing concern that credit rating analysts are misreading climate risks in the $133 trillion global bond market, to the detriment of creditors and borrowers alike.
Research by the
European Central Bank shows that even when climate variables are statistically significant, they play only a marginal role in influencing sovereign ratings. And a study conducted by a Federal Reserve economist indicates that extreme weather events may end up restricting some governments’ ability to issue debt.
Climate change has “yet to be hardwired into the methodology” currently used by the biggest ratings companies, said Moritz Kraemer, who oversaw S&P Global’s sovereign debt ratings until 2018 and is now head of research at Germany’s LBBW Bank.
It’s only 15 years since S&P, Moody’s Investors
Service and Fitch Ratings famously misjudged the subprime mortgage market that triggered the 2008 financial meltdown. Now, they’re under fire for potentially underestimating potential climate losses in a rating system more tuned to the near term.
S&P, Moody’s and Fitch say they do account for climate risks, though it isn’t an easy calculation. Since the start of 2022, S&P has published five climate-related ratings actions on non-financial companies. It says climate regulations have yet to bite and most companies’ net zero spending isn’t big enough to affect financials or ratings.
S&P Global said it evaluates the impact of ESG credit factors for its debt ratings. These factors include climate transition and physical risks, health and safety, and risk management. They can impact a rating if they’re deemed to be material to creditworthiness and if S&P can measure their impact with enough certainty, according to a company spokesperson.
At Fitch, climate change and other environmental risks have affected about 6% of its ratings, though it expects that to change within the decade. Some 20% global corporations may face ratings downgrades by 2035 due to climate vulnerabilities, according to Fitch estimates.
Moody’s estimates that sectors facing high or very high environmental credit risk now account for $4.3 trillion in rated debt, a figure that’s doubled since late 2015.