Yesterday the Bank of England launched its Climate Biennial Exploratory Scenario 2021 (CBES). The CBES is the BoE’s first climate-risk related stress-testing exercise, involving the eight largest UK banks and building societies (including Barclays, NatWest Group, Lloyds Banking Group and Nationwide Building Society), together with a number of the largest UK insurers (such as Axa and Aviva).

The purpose of the exercise is to stress-test the resilience of the participants in the face of increased financial risks due to climate change using risk modelling methodologies. The CBES supplements the BoE’s pre-existing stress tests to help assess the resilience of the UK financial system and individual institutions but is different in certain regards, most notably given its focus on climate risk.

The CBES explores the vulnerability of current business models to future climate policy pathways and the associated changes in global warming over time, based on scenarios devised for use globally by the Network for Greening the Financial System. Participants will measure the impact of the scenarios on their end-2020 balance sheets, which represents a proxy for their current business models.

The final CBES is, in certain aspects, a watered-down version of the BoE’s original proposals, requiring firms to include the 100 largest and most material corporate counterparties in their assessment rather than those representing 80% of the nominal value of exposure to corporates. This scaling-back is in response to serious concerns raised by participants as to their ability to respond meaningfully to the full magnitude of the original scope.

There will be a number of challenges associated with the CBES for participants, counterparties of participants and the BoE. CBES is an involved data gathering exercise which may prove challenging for participants both in respect of the level of granularity required but also given the need to develop new methodologies, data sets and research outcomes without any established market-wide guidance or practice. In addition, participants will, in certain cases, be expected to engage with their counterparties who might also not have developed methodologies to source the relevant data – a recurring data theme for the ESG space. As well, the qualitative questionnaire and other elements of the CBES leave scope for subjective analysis which may create comparability issues.

Whilst only a small number of firms have been invited to take part in this initial CBES, the BoE has made clear that it intends to expand the scope of future CBES to include other regulated firms. These firms will therefore no doubt be interested to observe the outcomes of this process.

On timing, the BoE expects to publish aggregated CBES results in May 2022, after running a second round of the exercise, which would launch around the end of January 2022. A decision on the form and content of this second round will be based on analysis of participants’ initial submissions. If no such second round of the exercise is launched, the results will be published earlier.