Moody’s Climate on Demand: Our Vision for Quantifying Climate Impacts

As previously announced, Moody’s has released Climate on Demand version 2, which looks to vastly improve the quantification of physical climate risk to offer an unparalleled solution in the marketplace

The latest version of the Climate on Demand solution can now help assess both the level of physical damage plus the business interruption caused by climate change, and calculate how much it will cost, for any asset, anywhere in the world.

How does the solution achieve this? Our vision for Climate on Demand is to capture a complete physical climate risk view by paying equal attention to both risk identification and quantification to capture the full scope of any impact.

To meet the needs of the financial sector, the approach we are taking to measure climate impacts is based on delivering key metrics that correspond to global scientific community-developed climate change scenarios, using high-resolution risk models that integrate the latest climate model output with bottom-up weather simulations.

This quantification of losses from physical climate risks and climate change within Moody’s Climate on Demand starts at the asset level, which allows users to deep dive into both the hazard and asset-specific drivers of risk.

Additionally, the solution’s impact and hazard risk scores can be used to rigorously screen and compare different assets. This allows users to collapse down even the world’s largest portfolios into simple snapshot insights and reveal distinctions in risk due to asset characteristics, location, or future climate scenarios and timeframes.

Empowering Asset Managers and Investors

The Climate on Demand feature set is intentionally created to empower asset managers and investors of any size to make decisions with confidence, all backed by real-world data validation and the most current view of peer-reviewed global climate science.

The technical growth of the Climate on Demand solution has mirrored the growth in technicality and comprehensiveness witnessed in the world of regulatory compliance, as the need to quantify climate risk across industries grows. 

One of the leading climate change compliance organizations, the Task Force on Climate-Related Financial Disclosures (TCFD), recently noted that changes to chronic risks (e.g. drought) and more frequent and severe extremes of climate will be expected to increase business interruption and damage across operations and supply chains.

These changes will have consequences for input costs, revenues, asset values, and insurance claims. Guidance from bodies such as the TCFD is encouraging entities towards using increasingly quantitative models and analyses that assess climatic consequences as they become more advanced in their journey to understand risk.

Financial Metrics

Financial metrics quantify risk in terms of the expected Average Annual Damage (AAD) over the long term, along with a standard deviation that measures the volatility of the potential damage year to year.

The AAD metric provides a financial measure for the cost of physical damage, business downtime, reduced productivity, and increased operational costs from weather events and climate change.

Accurately assessing the expected damages from climate change requires sophisticated modeling across the full range of possible weather and climate events that may occur in any given location both now and in the future, along with the impact of these events across hundreds of different buildings and business types.

The vulnerability of different assets and businesses to the same weather and climate varies significantly due to varying construction styles and practices, building codes, and building quality.  

The Moody’s RMS team has more than 30 years of experience and knowledge of building code variations, and post-event ground reconnaissance following disasters around the world, involving over one hundred scientists and engineers.

Moody’s RMS has analyzed US$100s of billions of insurance claims and loss data to create hundreds of vulnerability curves that represent different building and business types. These curves help to quantify the costs of damage to buildings, their contents and equipment, and the downtime effects on loss of income.

Expected losses can be quantified for individual assets or locations, or aggregated across entire portfolios of assets, by geography such as for a metro-area, a county, a country, a continent, or globally, and differentiated by property and business type.

Volatility expressed as the standard deviation is another important component of understanding risk. This varies according to the location and the perils that dominate a specific area, for example, whether hurricane landfalls vary significantly year on year in terms of the amount of loss and damage they cause, and where those damages occur.

For example, Florida is more frequently struck by hurricanes than the northeast of the U.S. and as anyone working in financial services knows, higher volatility generally means higher risk.

Impact Scores

The impact scores generated within the Climate on Demand version 2 solution are derived from the financial damage metrics as described before. As a result, the impact scores quantify the risk of assets or portfolios based on damage costs, and not just hazard.

While hazard is a useful starting point for understanding which assets are most at risk from climate change, it falls short when quantifying the impact of climate change on damage, loss, and business interruption.

In addition, impact scores enable a more robust comparison between assets or portfolios than hazard only, to help inform investment decisions. Physical asset characteristics such as construction type, age, height, and the type of business all influence how much damage and financial loss that will be caused by the same hazard.

There are a lot of nuances here, as for chronic risks such as drought and heat stress, most of the impact is through reduced productivity, increased business downtime, and increased costs rather than physical damage.

All of these factors are accounted for within the Moody’s Impact Scoring methodology which is due to be released this year.

Climate Change Scenarios

Climate change scenarios represent a range of plausible future outcomes but are not forecasts or predictions. These scenarios look to capture many uncertainties, such as the levels of greenhouse gas emissions there will be in the future, which itself then depends on policy choices by governments around the world and decisions made by individuals, businesses, and industries.

There are also many possible future socioeconomic outcomes, which are in turn somewhat dependent on policy choices. Additionally, there are also many different possible developments that affect climate, such as demographic composition and population distribution, and changes in land use such as the growth of cities, proliferation of forests, deserts, and so on.

Not all scenarios are the same – as different scenarios have been created for different purposes. The Representative Concentration Pathways (RCPs) used in the Intergovernmental Panel on Climate Change (IPCC) Fifth Assessment Report and the Network for Greening the Financial System (NGFS) scenarios were developed to provide a common starting point for analyzing climate risks to the economy and financial system.

These different frameworks have different assumptions around socioeconomic developments, transition risk responses, and temperature outcomes. However, because temperatures are a commonality, it is possible to map the scenarios from one framework to another.

Moody’s Climate on Demand version 2 will offer customers the ability to understand their risk for a range of different climate change scenarios and at multiple time horizons from now through to 2100.

This approach aligns with best practices as defined by initiatives such as TCFD, and also allows us to support stress testing requirements from different regulators around the world. 

If you’d like to dig deeper and see details of future Climate on Demand capabilities, contact us at MESG@moodys.com.