The $3 Trillion Showdown to Save the Planet
I was introduced to this report by Aaron McCreary from Doconomy. After asking for resources to learn about climate fintech. The report gave a rundown of the trends and categories of the industry.
When it comes to climate change finance is something we don’t think about. But the IEA says we need $2 Trillion to fund the transition. That money needs to come from somewhere. Hence climate fintech comes in to help financial institutions and customers move into more sustainable areas.
All climate projects will require funding large or small. Creating tech to solve this issue will be important.
The report talks about the types of tools that are being used to create these solutions. Although I do wish that the whitepaper when more into technical details of tools mentioned. But I do understand it’s a whitepaper, not PhD thesis.
Blockchain is being used more in climate fintech. Because blockchain tech allows you to verify transactions and contracts digitally without a 3rd party. There is still a lot of froth in the space as people still working out how to use the tech or plain old grifters.
From what I noticed from the report many of the solutions are vertical-based. Meaning a solution will be built for insurance companies in mind or asset management.
I wonder about the various bottlenecks affecting these climate fintechs. Is it collecting data to build these ML models? Or selling these products to would-be customers. The famous product risk vs market risk conundrum.
Stakeholders in climate fintech
The report laid out the ecosystem by mapping various stakeholders into 3 main buckets:
Private capital (Central banks, Investment Banks, Retail and Commercial Banks).
Asset Managers (Assets Managers, Passive funds and Indices, Wealth Managers).
Asset Owners (Insurance companies, Sovereign Wealth Funds, Pension funds).
Your fintech startup will be helping one of these stakeholders. Either helping them invest in climate projects directly or evaluating the assets they already have.
The Other stakeholders don’t directly invest in these climate projects. But help the climate fintech startup. These are Venture capital, individual investors, accelerators, and universities.
The surprising popularity of risk analysis
Risk analysis is an area that found interesting, due amount of active interest in the field. Risk analysis I thought was a solved problem for the climate world and only a small amount of insurance companies will find it useful. But insurance companies plus consultancy have been picking up at an increasing rate.
From the whitepaper:
“Big players are actively acquiring startups. For example, Moody’s recently acquired minor stake in SynTao Green Finance in China and Four Twenty Seven in the US. Major acquisitions were also observed in other regions in both 2019 and 2020; in addition to the previously mentioned MSCI acquisition of Carbon Delta, Bain & Company acquired Ecovadis in Europe, Morningstar acquired Sustainalytics, and BlackRock formed a strategic partnership with Rhodium Group”
In hindsight, it makes sense, as asset owners and insurance companies look to value their assets in a changing world.
The insurance industry is worth $6 trillion, and many other companies need help evaluating their assets with rising sea levels and wildfires. Many houses in California are now worthless as fire strikes that house every year. No insurance company want to cover that.
The risk analysis is built on the rise of satellite imagery and AI. These trends allow companies to collect precise geographic data and model that data into something useful.
Jupiter Intel a company mentioned in the report evaluates climate risk under different temperature scenarios. (i.e. 1.5C vs 2C). By having high-resolution satellite images, they see effects within a few meters. This allows the company to take action to mitigate the climate risk for each of its assets.
Companies like First Street Foundation can use climate models and satellite imagery to put a wildfire risk for each household in the area. Then homebuyers can make their own decisions from there.
The whitepaper mentions that climate risk can be broken down into different areas.
Transition risk: What changes does a net-zero world affect the company?
Policy and Legal Risk, Technology Risk, Market Risk, and Reputation Risk. You can wrap all these into the ESG category. This may explain why consultancies are buying these risk analysis companies.
This is the practice of carbon accounting comes in. Companies will need to reduce their emissions. Going through the supply chain for emissions dealing with multiple risks. Legal risk, following a carbon tax. Reputation Risk, not fulling your very public net zero is an embarrassment.
The other main category is Physical Risk. The risk you think about when it comes to climate risk. What is the likelihood that this house is underwater in 10 years? Or what is the likelihood that this house in turned to ash next summer?
The whitepaper shows the EU taxonomy version of these definitions:
Transition Risk relates to the process of transitioning to a lower-carbon economy
Physical Climate Risk relates to the physical impacts of climate change
Physical climate risk can be bucketed into these areas:
Source: ngfs_physical_climate_risk_assessment.pdf
https://www.ngfs.net/sites/default/files/media/2022/09/02/ngfs_physical_climate_risk_assessment.pdf
You can also think of risk using this equation:
Risk = hazard x exposure x vulnerability
These startups help clients work out all areas of this equation. With simulations and data.
The whitepaper showed this workflow for risk analysis:
Collection >> Processing >> Aggregation >> Solutions.
This workflow is not a unique risk analysis. As this workflow will be used more by many ML-based companies.
I guess that a lot of value is the models, the data less so. Because a lot of value comes from which assets are at risk and what to do about it. Having a dataset of at-risk areas is helpful but a prediction of severity and likelihood is the most useful information for the company. This is where models come in.