Understanding Climate Transition Risk: A Fresh Framework for Better Measurement

The climate transition poses significant risks for companies, financial institutions, and investors. However, measuring these risks remains a challenge, as existing methods often yield inconsistent results. Two widely used proxies for assessing climate transition risk are CO₂ emissions data and ESG (Environmental, Social, and Governance) scores. While these metrics are detailed and easy to use, they have notable shortcomings, including bias, limited availability, and a backward-looking approach.

To address these issues, Philip Fliegel proposes a new 10-category framework to evaluate climate transition risk proxies comprehensively. A detailed review of CO₂ data and ESG scores through this framework reveals critical gaps in their ability to accurately reflect transition risk. Scholars are encouraged to test the robustness of their findings when relying on these metrics alone.

He also highlights alternative proxies such as alignment with the EU taxonomy, sector-specific classifications, and innovative combinations of risk metrics. These alternatives may offer greater precision, comparability, and relevance to transition risk, helping companies better manage and price climate-related risks.

This work lays the foundation for more reliable risk assessment tools, ensuring that the financial sector can navigate the complexities of the climate transition effectively.

Read the study here: http://doi.org/10.1002/csr.3094