The AERM Project
Background to Advancing Environmental Risk Management (AERM)
The AERM project aims to enable financial institutions to better understand, assess and integrate natural capital-related risks into their existing risk management processes. The AERM project is funded by the Swiss Secretariat for Economic Affairs (SECO) and the MAVA foundation.
What is AERM?
Advancing Environmental Risk Management, is the NCFA’s flagship project, aiming to provide practical methodologies and frameworks to incorporate natural capital assessment into existing finance sector risk management frameworks. Focusing initially on the banking sector, the project aims to provide the knowledge base and tools needed for financial institutions to understand how their clients and portfolio are affected by their dependence on nature, especially in the context of ecosystem degradation and depletion, how this can in turn affect the bank, and possible responses the bank can take.
The AERM project aims to map natural capital-related risks for the finance sector, and integrate risks that are financially material for their portfolios into risk assessments and methodologies such as credit risk.
In doing so, financial institutions will have a better understanding of natural capital risks and the ability to integrate these into products and services, thereby improving their ability to manage risks and at the same time contribute to more sustainable production and consumption, as well as environmental resilience.
For the purpose of this project, natural capital-related risk has been defined as the risk of reduction or interruption of the benefits that humans and their economy receive from nature, as a result of human pressure on the environment.
In November 2015, the NCFA released the first component of this pilot, a report entitled Towards Including Natural Resource Risks in Cost of Capital charts the pathway towards mapping and integrating natural capital risk factors in the financial sector.
There are two remaining phases to the project:
- Phase 1 is the preparatory phase where the necessary knowledge base and data are collected and catalogued for application in
- Phase 2 is the application phase, which has two activities:
- Activity 1: A custom user interface for the Phase 1 outputs (often referred to as a heat-map); and
- Activity 2: Up to six pilots in three countries (Colombia, Peru and South Africa), each composed of a rapid natural capital assessment of a bank portfolio and a deep analysis of one portfolio element.
Outputs – Phase 1 (completed)
Over the past year, the NCFA has worked in collaboration with the UN Environment Programme’s World Conservation Monitoring Centre (WCMC) to develop a methodology for assessing natural capital dependencies by sector.
This involved the creation of a database of economic sectors and their dependence on natural capital, along with information on how those dependencies respond to environmental degradation. Finally, data sources have been evaluated to see which can be used to assess risk.
These phases and activities also have different focus, and can be divided into a global and country component:
- Global Component:
- A comprehensive knowledgebase of natural capital-related dependencies and indicators (Phase 1)
- A methodology and map suitable for identifying natural capital-related risks by sector and region (Phase 2, activity 1)
- Country component:
- Testing the risk methodology on financial performance metrics in specific sectors/regions/commodities will be implemented in three countries: Colombia, Peru and South Africa (Phase 2, activity 2).
Outputs – Phase 2
In 2018, the project will work on the two activities of Phase 2, the user interface/heat mapping and the country pilots.
The completed work will be launched at the UNEP FI Global Roundtable in Paris at the end of November 2018.