Data and AI: Laying the foundation for ESG transformation in financial services

THE ROLE OF DATA AND AI IN DRIVING SUSTAINABILITY FOR BANKS

Satish Weber

Oct 29, 2024

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How cutting-edge tech will shape the future of environmental and social impact in banking

In finance, the goal is to go green - now more than ever.

At Capgemini's Business to Planet Connect 2024, part of Climate Week NYC, a panel of experts discussed the challenges and opportunities that lie ahead for financial services companies.

They highlighted how data, artificial intelligence, and collaboration will be critical for setting and achieving environmental, social, and governance (ESG) goals in the financial sector. They touched upon reporting, risk management, growth, innovation, and much more.

Throughout the conversation, Satish Weber, Chief Sustainability Officer for Capgemini's financial services business, cited a few illuminating statistics from the latest A world in balance report: more than 70 percent of executives now believe the benefits of sustainability outweigh the costs (a stark contrast to earlier attitudes that viewed it merely as a cost of doing business), and 67 percent think the potential sustainability benefits of Gen AI outweigh the detriments.

Like other industries, the financial sector is reconsidering its impact on the environment and exploring how new tech and ways of working can help. What follows are key takeaways from the panel.

Changing business models

In recent years, it's become clearer to banks and insurers that incorporating sustainability concerns into their business strategies is no longer an option, but an imperative.

The World Economic Forum's research indicates that more than half of the planet's total gross domestic product, about $44 trillion, relies on nature.

According to the United Nations Environment Programme's latest State of Finance for Nature report, humankind will need to nearly triple today's levels of investment in nature-based solutions to $542 billion by 2030 to limit climate change to 1.5 degree Celsius above pre-industrial levels.

Viewing the entire supply chain

Financial services companies will need to look at the entire supply chain - both upstream and downstream - when incorporating sustainability into their business models.

Major banks operate in a financial economy rather than a real economy (i.e., focusing on monetary activity rather than the flow of physical goods). So, although a bank can reduce its footprint with restrictions on hardware, paper, and electricity, most of its attention should go to its downstream portfolios: its clients across various sectors, including those with enormous carbon dioxide emissions.

Many major financial services companies say they are working with these clients to identify technology use cases that will reduce environmental impacts. Their existing environmental and social risk management (ESRM) policies should have established guidelines for due diligence when managing such risks.

Organizing ESG data with Gen AI

The panelists discussed how banks have struggled to incorporate ESG data into their decision making over the last few years because the datasets lack standardization, structure, and traceability.

They expressed hope that Gen AI solutions would be able to source, compare, validate, and interpret these data faster than humans could manually. But they also encouraged handing these insights over to actual analysts to protect against biases in the AI and ultimately make a sound financial decision.

"Gen AI has lots of benefits in the context of sustainability for the banks, but it needs to be managed," one panelist said.

Evolving climate modeling for FS

Catastrophe modeling has helped insurance providers prepare for devastating storms for decades. But losses from non-catastrophic weather events have increased as global warming continues.

Many insurance companies are working with the National Oceanic and Atmospheric Administration (NOAA) to better understand how severe storms and climate change are affecting specific communities.

For instance, an insurer focused on military families may add new layers to extreme weather maps that provide better understanding of their likely needs, considering locations and resources.

Tej Vakta, Head of Sustainability Solutions for Capgemini's financial services business, emphasized the collaboration with OS-Climate and detailed how Capgemini developed Business for Planet Modeling - built on Google Cloud. This advanced, integrated climate scenario analysis and assessment model facilitates strategy co-creation and validation, addressing both physical and transition risks for financial services institutions.

Combining physical risk and finance data

Banks are starting to learn about physical risk from insurers but are having difficulty incorporating new layers of geospatial storm data into their financial systems, which were designed for tracking profit and loss, credit, balance sheets, and so on.

Many banks are responding to the challenges of managing these large datasets, issues such as storage and computation, by going cloud native with frameworks like data mesh, which build a decentralized architecture and enable great flexibility. Richer data sets allow one to create scenarios on the fly.

Central banks and regulators often request risk-assessment scenarios. Soon, however, banks without the right architectural thinking won't be able to respond to the fast turn-around times.

Harmful climate events are widespread and touch upon every aspect of a firm. Banks need to start looking at the wide array of risks, in terms of complex modeling, beyond the credit level.

Stress-testing exercises can help firms better understand market-risk factors within an overall portfolio or the operational risks of their own facilities, such as physical damage to a certain location or a server outage.

Collaborating on nature risk

Even for banks that have already incorporated climate risk into their enterprise risk management (ERM) frameworks, their understanding of nature risk may still be in its early stages.

The Taskforce on Nature-related Financial Disclosures (TNFD) is an initiative aimed at helping financial institutions understand and manage their risks and opportunities related to nature and biodiversity. Its 40 members represent financial institutions, corporations, and market service providers and hold more than $20 trillion in assets.

TNFD developed LEAP, an approach to identifying and assessing nature related issues for all organizations across all sectors and geographies. The four phases of LEAP are locate, evaluate, assess, and prepare.

This framework helps organizations ensure their disclosure statements align with TNFD recommendations but it's also useful to better understand risks and opportunities.

Unfortunately, there is no single golden source of data on all the different elements of biodiversity a bank needs. This is where collaboration with various partners, data providers, and clients can help.

At least one panelist expects industry collaboration on physical risk and climate resilience will "go through the roof over the next two years." He said few people collaborate across financial institutions when a problem is new, but over time our shared interests become clearer and the non-competitive spaces for working together often increase.

Creating business value in sustainability

A central part of the overall sustainability transition will be the energy sector's scaling of green-energy infrastructure, which will require trillions of dollars. Facilitating such investments are growth opportunities.

Financial institutions have a lot of capital that can be invested in clean tech and climate tech, just as they've invested in Insurtech and fintech.

Many major banks have made the significant commitment of mobilizing large sums - some exceeding $1 trillion - toward sustainable and transition financing by the end of 2030.

"As banks, we have a critical role to play in driving the real transition of the economy," one panelist said. "It's not going to happen by itself."

In addition to financing clients who need to invest in capital infrastructure, financial institutions might be able to play a major role in standardizing and accelerating carbon markets.

"This is the biggest evolution of the global economy that has ever been and hopefully ever will be," another said. "But there is going to be a need for an immense amount of capital, a collaborative approach and the integration of data and technology to expedite the transition."

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Sustainability for financial services