This paper demonstrates how climate scenario analysis can be used for forward-looking assessment of the risks and opportunities for financial institutions, using a case study for a UK defined benefit pension scheme. It uses a top-down modelling tool developed by Ortec Finance in partnership with Cambridge Econometrics to explore the possible impacts of three plausible (not extreme) climate pathways of the scheme’s assets and liabilities. It finds that the funding risks are greater under all three climate pathways than under the climate-uninformed base scenario. In the absence of changes to the investment strategy or recovery plan, the time taken to reach full funding is increased by three to nine years. Given that most models currently used by actuaries do not make explicit adjustments for climate change, these modelled results suggest it is quite likely that pension schemes are systematically underestimating the funding risks they face.

The Working Party has developed some practical hints and tips for those developing integrated risk management (IRM) plans for UK defined benefit pension schemes in the context of the requirements of the Pensions Regulator. Four case studies are presented to illustrate its conclusions, which are encapsulated in the ten commandments for effective IRM. IRM is the consideration of investment, funding and covenant issues, and how these interact. Its purpose should be to aid decision making and so should have a clear outcome in mind. It should be a continuous process and should form part of everyday trustee governance – it is not simply a one-off exercise. Whilst most Trustees and advisors consider funding issues when setting their investment strategy and vice versa, fewer fully integrate covenant into their decision-making process. However, covenant underpins all risk taken in a pension scheme and so needs to form a regular part of trustee discussions and analysis by advisors.