Singapore Regulator Issues Environmental Risk Management Guidelines For Asset Managers And Other Financial Institutions – Environment

On 8 December 2020, the Monetary Authority of Singapore (MAS)
issued Guidelines on Environmental Risk Management (the Guidelines)
tailored to financial institutions (FIs) in three sectors: asset management, banking and insurance. The Guidelines are intended to
drive the transition to an environmentally sustainable economy by
enhancing the integration of environmental risk considerations in
FIs’ financing and investment decisions and promoting new
opportunities for green financing.

We previously covered the initial MAS proposals for the
Guidelines as they related to asset managers and insurers. This Legal Update will focus on the
final Guidelines as they relate to asset managers and highlight key
updates to the initial proposals.

Defining Environmental Risk

The MAS framework for environmental risk encompasses the
following three risk channels:

• Physical risk arising from the impact of weather events and
  long-term or widespread environmental changes (e.g., water scarcity
  and the rising frequency and severity of extreme weather events,
  which can impair the value of assets and/or impact supply
  chains);




• Transition risk arising from the adjustment to an
  environmentally sustainable economy, including shifts in public
  policies, technological developments and shifts in consumer or
  investor preferences (e.g., the transition to a low-carbon economy
  can impair the profitability of companies in carbon-intensive
  businesses); and




• Reputational risk arising from investments in companies that
  have a negative impact on the environment, creating a negative
  perception of the asset manager that may adversely affect its
  ability to maintain or grow AUM (assets under management).

This framework is generally aligned with the Recommendations of the Task Force on
Climate-related Financial Disclosures (TCFD), which focus on
climate-related risks only. The TCFD framework principally
recognises physical and transition risks, with the MAS electing to
also include a standalone “reputational risk” category
described above. Jurisdictions around the world, including Hong Kong and New York, are increasingly referring to the
TCFD Recommendations in climate-related risk management
guidance.

Significantly, the Guidelines encompass risks related to a
broader range of issues than climate change alone, including the
loss of biodiversity, pollution and changes in land use. Asset
managers applying a global risk management framework to comply with
the Guidelines should keep this in mind and ensure processes
applied in Singapore also address these additional risk areas.

With the multifaceted nature of environmental risk and the
potentially significant impact it can have on asset values, the MAS
notes that it is crucial for asset managers to ensure the
resilience of their customers’ investments against such
risk.

Scope

The Guidelines will apply to fund management companies
registered in Singapore, as well as the holders of a capital
markets licence for fund management and real estate investment
trust management in Singapore. Asset managers that do not have
discretionary authority over the investments of the funds/mandates
they are managing are not covered.

Importantly, the MAS confirmed in Consultation Responses that the Guidelines
apply to all covered asset managers regardless of their investment
strategies. Asset managers are permitted, however, to apply the
Guidelines in a manner that is “commensurate with the size and
nature of their activities, as well as the investment focus and
strategy of their funds/mandates.” For example, asset managers
using passive investment strategies should use engagement and proxy
voting to influence the behaviour of investee companies. Smaller
asset managers can take “measured steps” toward
compliance, including through environmental risk management
capacity building efforts.

The Guidelines

The Guidelines address environmental risk management practices
in the following categories:

• Governance and Strategy: The Guidelines
  clarify that asset managers are required to identify, address and
  monitor material environmental risks pursuant to certain existing
  risk management regulations in Singapore. Accordingly, the board of
  directors and senior management should oversee the integration of
  environmental risk into existing risk management frameworks.
  Specifically:
  
  
  

  • the board (or a committee thereof) is responsible for approving
    an environmental risk management framework and related policies,
    setting the roles and responsibilities of the board and senior
    management with respect to the framework and ensuring that
    management has adequate expertise and resources for managing
    environmental risk; and

  
  

  • senior managers are responsible for developing, implementing
    and reviewing the framework, establishing an escalation process for
    managing environmental risk and allocating resources
    appropriately.

  
  

  In its Consultation Responses, the MAS confirmed that a board of
  directors can delegate its duties to a committee, while asset
  managers need not designate directors and officers solely
  responsible for environmental risk. Further, asset managers may
  apply global or group governance structures and frameworks in
  Singapore, but local boards and managers must nonetheless oversee
  Singapore operations and the implementation of the responsibilities
  contained in the Guidelines.




• Research and Portfolio Construction: Asset
  managers should embed environmental risk considerations in research
  and portfolio construction processes and are encouraged to refer to
  international standards and frameworks (e.g., the Global Reporting Initiative, CDP, SASB and TCFD)
  when considering transition and physical risks at an individual
  asset and/or portfolio level. The Guidelines provide illustrative
  examples for asset managers to reference when considering the
  materiality of environmental risk for different asset classes,
  including:
  
  
  

  • fixed income investments, in which asset managers should
    consider environmental indicators from external data providers, in
    addition to such information provided by the issuer, to obtain a
    more holistic view of environmental risk; and

  
  

  • direct real estate investments, in which asset managers should
    consider operational indicators (e.g., greenhouse gas emissions and
    energy, water and waste management data), extreme weather events,
    and the effects that both of these factors may have on tenant
    demand.

  
  

  At all times, asset managers must also be mindful of limits that
  their customers may set on exposure to specific sectors or types of
  activities, like sector limits on investments in the fossil fuel
  industry or caps on portfolio-wide carbon emissions.

  
  

  The MAS recognises in its Consultation Responses that asset
  managers may find it difficult to obtain relevant environmental
  data for research and portfolio construction purposes due to a
  variety of factors, including the continuing evolution of
  disclosure frameworks. It suggests smaller asset managers should
  use publicly available data to identify sector-specific risk,
  rather than more detailed granular analysis, to keep compliance
  costs down. For more information about ESG disclosure frameworks,
  please see our Legal Updates on recent developments from
  the UN Development Programme, World Economic Forum and CFA Institute.

  
  

  In its Consultation Responses, the MAS also confirmed two
  important developments that will help bring greater consistency to
  environmental data in Singapore. First, the Singapore Exchange will
  soon include the TCFD Recommendations in its disclosure guidance to
  listed issuers. Second, the MAS is working with the financial
  sector to assess the potential of a taxonomy for Singapore-based
  FIs covering both green and transition activities.




• Portfolio Risk Management: Asset managers
  should monitor, assess and manage the material potential and actual
  impacts of environmental risk on both individual investments and
  portfolios on an ongoing basis. Further, asset managers should
  develop capabilities in scenario analysis to evaluate portfolio
  resilience under different environmental risk scenarios (e.g., with
  sensitivity to a diverse array of changes from temperature
  increases to sea level rise) and engage in capacity building by
  providing environmental risk management training to staff.

  The MAS recognises in its Consultation Responses that the
  development of guidance for scenario analysis is in a nascent
  stage. Accordingly, the MAS will provide guidance to asset managers
  on relevant scenarios and risk factors in the future. In the
  meantime, asset managers are directed to the climate scenarios of
  the Network of Central Banks and Supervisors for
  Greening the Financial System, IPCC Intergovernmental
  Panel on Climate Change and International Energy
  Agency.




• Stewardship: Asset managers should actively
  shape the corporate behaviour of their investee companies through
  engagement, proxy voting and sector collaboration. Strategies for
  engagement include raising environmental issues with investee
  companies to increase their awareness of related risks and
  opportunities and independently gathering information to supplement
  investee companies’ own environmental risk disclosures.
  
  In its Consultation Responses, the MAS confirmed that the examples
  of stewardship in the Guidelines are illustrative, rather than
  prescriptive or exhaustive. Asset managers therefore have
  flexibility to determine appropriate stewardship approaches. For
  smaller asset managers, the MAS notes that both proxy voting and
  collaborating with other investors can be cost-effective approaches
  to stewardship.




• Disclosure: Asset managers should disclose
  their environmental risk management approach to stakeholders, and
  are encouraged to disclose the potential impact of material
  environmental risks with reference to quantitative metrics. Asset
  managers may refer to international reporting frameworks, like the
  TCFD Recommendations, when preparing such disclosures.
  
  The MAS clarified in Consultation Responses that asset managers
  can make environmental risk disclosures in their annual reports,
  sustainability reports, investor reports and/or websites. For
  smaller asset managers, disclosures can initially be more
  qualitative in nature.

Implementation Timeline

While the MAS initially proposed a 12 month transition period,
in its Consultation Responses the MAS recognises that asset
managers may face initial challenges in implementing the
Guidelines. Accordingly, the implementation timeline has been
extended to 18 months. Asset managers may implement the Guidelines
in phases, but are expected to demonstrate evidence of their
implementation progress over the transition period. The MAS will
start engaging with larger asset managers on their implementation
progress beginning in Q2 2021.

Singapore’s Sustainable Finance Journey

The Guidelines are a significant step in Singapore’s
sustainable finance journey, with more developments relevant to
asset managers and other FIs to come. As noted in the Consultation
Responses, the MAS is assessing a potential taxonomy for Singapore
and the Singapore Exchange will soon implement the TCFD
Recommendations in its reporting guidance for listed companies.
Asset managers and other FIs will have plenty to look forward to as
Singapore continues its journey on the road to becoming a worldwide
leader in sustainable finance.

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