Green and sustainable finance, and environmental, social and governance (ESG) have been top of mind for many financial institutions in Hong Kong and this will remain the case in 2022. This is in no small part due to recent regulatory moves from the Hong Kong Monetary Authority (HKMA), which is looking to banks to drive change as Hong Kong aims to become a green and sustainable finance hub. While new regulations are focusing on assessing the climate resilience of the sector, we believe that banks will prioritise the front office impacts in 2022.

In January 2021, the Hong Kong Monetary Authority (HKMA) launched a pilot, with participating banks required to conduct climate risk stress testing (“CRST”) for two major types of climate risk - physical risk and transition risk – which are seen as the most likely pathways to a low-emission economy.

The results of this pilot were shared at the end of 2021, with the HKMA observing a material reduction in participating banks’ profitability, as well as a weakening of capital positions under the extreme climate scenarios. The report also summarized the major challenges and actions that banks will need to take. Starting from 2022, banks will need to incorporate a broader range of climate risk factors into their risk assessment frameworks and strategic allocation of additional resources to climate resilient activities, such as green financing and providing transition finance to support their customers’ transition to low-emission business models.

At the end of 2021, the HKMA also finalised the Supervisory Policy Manual (SPM): GS-1 Climate Risk Management, which provides guidance on their expectations for climate-related risk management. By end-2022, banks are required to have implemented a climate risk management framework that incorporates climate considerations into governance, strategy, risk management and disclosure. It will apply to all Authorised Institutions (AIs), including locally incorporated AIs, as well as the Hong Kong subsidiaries and branches of international banks. This framework will assess how climate-related physical and transition risks, whether quantifiable or non-quantifiable, may affect an AI’s traditional risk types, such as credit, market, liquidity, operational, legal, reputational and strategic risks.

Under the SPM, the HKMA also announced its requirements that climate-related disclosures should be aligned with the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD). The TCFD was established by the Financial Stability Board (FSB) to develop a consistent global standard for climaterelated financial risk disclosures. The first submissions for local Hong Kong banks are due no later than mid-2023, which is expected to pose a significant challenge. While all of these disclosures focus on the environmental aspects of ESG, the HKMA has stressed that financial institutions should not lose sight of other sustainability issues that could pose risks.

Looking ahead, banks will not only need to comply with the climate risk management and TCFD disclosures, but also consider how to leverage the outputs from these new risk management tools and adjust their business strategies towards climate resilient activities such as green financing. Climate-related risk might start off in the risk function, but it will permeate out across the rest of organisation. This means that climate risk analytical tools are encouraged to be broadly used by the front office to review the business strategy, decide on onboarding and offboarding, and rollover of loans from customers in high carbon sectors.

Banks in Hong Kong will need to do a lot in a short amount of time. Adding to this challenge is an acute shortage of staff that can help drive these ESG strategies. Every jurisdiction around the world is competing for the same talent, meaning that this shortage will persist in the medium term.