Hong Kong banks must step up preparedness for extreme climate events and carbon policy changes, stress test finds

More intense climate hazards will cause banks to suffer an annual operational loss of US$282 million, HKMA says
HKMA will conduct a similar test two years from now, CEO says

Hong Kong Monetary Authority (HKMA)

Enoch Yiu

Published: 7:40pm, 3 Jan 2022

Why you can trust SCMP

Hong Kong banks need to step up their preparedness for risks arising from extreme climate events such as flooding and typhoons, as well as policy changes related to carbon emissions.

The Hong Kong Monetary Authority (HKMA), the city’s de facto central bank, last week issued the result of its first climate risks related stress test conducted on 27 banks in January 2021, and found that flooding and typhoons represented a major risk for the lenders.

“The banks project that the more intense climate hazards will cause them to suffer an annual operational loss of HK$2.2 billion (US$282.1 million), which is equivalent to 0.8 per cent of their profit before tax in 2019,” the HKMA report said.

The finding is significant, because the 27 banks studied had HK$2.9 trillion in property related loans, with half of these residential mortgage loans. And about 32 per cent of property used as collateral was located in coastal or low-lying areas and was more vulnerable to the risks of flooding or a rise in sea levels. These banks also provide 80 per cent of loans in Hong Kong.

Bad debt linked to mortgage loans might rise 25 times as a result, which will hurt their profitability, and lead to a 3 percentage points drop in their capital over a five-year period of extreme climate-related scenarios, the HKMA said.

HKMA, banks to help train staff to reduce job losses due to digitalisation

“While the HKMA has frequently conducted stress tests for banks, it has not done any such tests for climate change before. It is now the right time for banks to pay more attention and bring in measures to address such types of risks,” said Eric Tso Tak-ming, the chief vice-president of mortgage consultancy mReferral Corporation. The banks will need to get more insurance cover for flooding and other business interruptions to protect themselves, he added.

The stress test also showed that banks’ bad debt linked to high carbon emissions industries, such as energy, mining and construction, will rise three times in the next 30 years, if there policy changes force companies to shift to cleaner energy or adopt other measures.

“Given the strong capital buffers built up by the banks in Hong Kong, they will be able to withstand such shocks. However, the stress test also shows that banks must put in place a systematic approach to manage climate risks and support clients’ transition, so as to avoid the potential shocks envisaged under the [extreme climate risks] scenarios,” said Eddie Yue Wai-man, the HKMA’s CEO.

Hong Kong banks face pressures on US$205 billion of Libor-linked contracts

The results show that the impact of climate risks on banks cannot be ignored, Yue said in an article last week. “For example, expected credit losses from exposure related to residential mortgages and high-emission industries under all three scenarios were projected to increase sharply, undermining banks’ profitability and capital positions.”

He said the HKMA will conduct a similar test two years from now, while banks will also improve their systems to prepare for climate-change risks.

The stress test had given the Bank of East Asia (BEA) an opportunity to identify risks and opportunities arising from climate change, to assess the resilience of its credit portfolio and operations, and build capability with respect to climate risk management, a spokesman said.

HKMA will stay the course on ESG investments as they provide better returns

“BEA has developed plans to strengthen our strategies and risk-governance framework to ensure our resilience against extreme climate events, and to mitigate vulnerabilities identified during this stress test exercise. Nevertheless, due to the strong capital buffers that BEA has built up over the years, we estimate that climate change will not have a material capital impact on our bank,” he said.

Post