Credit Rating Agencies Miscalculating Climate Risks

A new report launched today, (Mis)Calculated Risk and Climate Change - Are Rating Agencies Repeating Credit Crisis Mistakes?, demonstrates that by not adequately accounting for climate risks, rating agencies could be repeating the mistakes of the credit crisis where risk was underestimated to the detriment of the global financial system.

By not factoring in climate risk, credit rating agencies are assuming a business as usual approach to fossil fuel investment, which would result in 4deg Celsius or greater warming of the planet. However, nearly 200 nations have agreed to limit global warming below 2degC, with a number of nations calling for below 1.5degC. Even as governments work together to achieve that goal that goal, there is a growing trend in international, national, business, consumer, legal, regulatory, and social efforts to mitigate climate change and avoid the current trajectory.

In assuming a business as usual scenario, rating agencies may be artificially inflating the credit ratings and financial value of companies that contribute to global warming. This poses significant risks for investors, and the climate, and could expose rating agencies themselves to legal liability.

"Fossil fuels are on the way out," says Niranjali Amerasinghe, Director of the Climate & Energy Program at CIEL. "Overstated credit ratings threaten not only investors and markets, but ultimately the global economy. They also contribute to overinvestment in activities that cause climate change, threatening our ecosystems and the people who depend on them."

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The report highlights the case of the Abbot Point coal terminal in Australia and demonstrates how Moody's Rating Agency failed to seriously consider how a dynamic climate trajectory could negatively affect the investment, resulting in a potentially inflated credit rating.

"While Moody's rated Abbot Point coal terminal as a run-of-the mill debt issuance, it, like other fossil fuel debt issuances, should be carefully analyzed," says Muriel Moody Korol, Senior Attorney at CIEL. "The value of fossil fuel investments in our current dynamic climate change trajectory could deteriorate dramatically just as sub-prime assets became worthless during the credit crisis. As rating agencies inadequately rated assets then, they are likely overestimating the value of fossil fuel assets now."

If rating agencies fail investors, individuals, and financial regulators again, credit rating agencies could face potentially significant legal risk, says the report.