Scientists warn over misuse of climate models in financial markets
I have read an interesting article from Reuters here. It was useful for me, since I want to understand better what do mean climate risk when it speaks of climate change. But first, let’s clear up some knowledge details.
What does climate risk means to me?
I have some experiences of climate risk in the pricing of climate derivatives. They are financial protections or “hedge” against future climate variations. These products may exist in a wide range of distinct situations:
I would add maybe the case of typical drought or flood for the crop farmer (soybean, corn, wheat, etc.) since I did work on the price of such insurances at S4 Agtech in Argentina.
The horizon of such products is typically a short-term horizon, let’s say from the next winter months, the next agricultural campaign, etc… up to the next 3 or 5 years (I think so). An efficient pricing of these products lies in an accurate estimation of the underlying climate risk on this time horizon, taking into account the local specificities. The typical weather, the agricultural soils, the variation of altitude are some factors which will have a clear impact in the intensity of the possible climate instabilities. They need then to be, somehow, considered in the pricing of these climate derivatives products, even if it may be not necessary to be as precise as possible. I think it is rather a story of distributing the weights of the global risk at local scale in a smart way, if you see my point,
Hence, the climate risk I know has a short-term horizon. I suppose we may consider that we are able to do a reliable estimation, even if not complete though. Somehow, you can use climate information and convert them in a financial product.
Climat risk for Climate change
The time horizon is distinct, it is rather a story of 20, 30, 80 years. It relies essentially on some scenarios, be it the ones from IPCC, the ones from AIE, or some others standardized ones. These scenarios are, as wiki says, projections of future greenhouse gas (GHG) emissions used by analysts to assess future vulnerability to climate change. They are connected to weather variables, such as the well known global average temperature rise, consequence of the GHG emissions. But they don’t seem to be focused only on a precised estimation of weather variables. They are economical scenarios, taking into account factors such as population, economic, energy or land-use and are essentially hypotesis-based. I understand that given the complex dynamic of the meteorology, it is clearly complicated to expect some reliable expectation of future prediction on long-term time horizon, at least for now.
Be it in term of definition, methodology or precision, both climate risk concepts are radically different. The following comment expresses it, clearly:
The problem is that existing climate models have been developed to predict temperature changes over many decades, at global or continental scales, whereas investors generally need location-specific analysis on much shorter time frames.
Neither are climate models designed to simulate extreme weather events, such as storms, which can cause sudden financial losses.
Okay, I think as a one of the inverstors given what I described previously. I supose it is probably due to models very complex. It is probably also due to the importance of the choices made (choice of scenario, … ). There is also a strong component of economical projection, which depends on many human choices that are still to be made by politics in the next decades, hard to predict… Let’s see!
This article let me think that it won’t be easy to give some useful helps in this long-term climate risk estimation given my experience. I still hope I may find my path to do my bit here, maybe as a “climate translators” as mentionned. Let’s keep on searching! What is sure is that I don’t want to greenwash. No, I don’t.