European Central Bank (ECB) has released an updated compendium of good practices for climate and nature-related (C&N) risk management, warning that many financial institutions may still be significantly underestimating their exposure to physical and environmental crises.
The report, which draws on the “vantage point” of the pan-European supervisor, highlights successful approaches currently used by more than 60 supervised banks. The update is designed to help both major and smaller institutions close persistent gaps in areas such as transition planning, scenario analysis, and the burgeoning field of nature-related risk.
While the ECB noted that all supervised banks now have a “foundational architecture” to manage C&N risks, it cautioned that methodologies for measuring physical and nature-related impacts remain in their infancy. With the global economy moving toward a potentially “disorderly” transition scenario, the ECB stressed that banks must prepare for higher and faster-moving risks.
“The evolving risk landscape with high uncertainty makes C&N risk management even more challenging,” the report stated, noting that risks are “very likely being underestimated” across the financial system.
The compendium provides a detailed roadmap for banks to enhance their resilience across several critical domains:
- Prudential transition planning: The ECB is encouraging banks to use transition planning not just for compliance, but as a strategic tool to understand how different decarbonisation pathways affect their risk profiles.
- Granular physical risk assessment: Rather than relying on broad regional assumptions, “good practice” now involves mapping exposures to the exact geographical locations of individual assets. Some frontrunners are now modelling how extreme weather disruptions—such as floods or wildfires—directly impact corporate revenue and collateral value.
- Transition finance & strategic pricing: Some banks are leveraging technological expertise in “hard-to-abate” sectors like steel and aviation to design targeted transition finance products. Others are accepting lower margins in the short term to secure a foothold in growing green markets.
A significant portion of the update—approximately one-third of the new entries—focuses on nature-related risks. The ECB found that while most banks have performed materiality assessments, two-thirds have yet to link these to concrete risk management actions.
To support progress, the compendium highlights the use of public datasets to track water consumption, pollution levels, and proximity to protected areas. It also showcases banks that have begun integrating nature-related risks into their internal capital adequacy assessment processes (ICAAPs), in some cases defining specific capital buffers to cover potential losses.
The ECB strongly advocated for “proactive client engagement” over blanket exclusions. By working with corporate clients in high-risk sectors to improve their resilience, banks can reduce their own exposure while supporting the broader economic transition. The supervisor noted that a client-specific approach is often more risk-sensitive and effective than simply retreating from entire regions or industries.
The updated compendium is intended as an illustrative guide rather than a legally binding regulation, meant to inspire banks as they prepare for the European Banking Authority (EBA) Guidelines on ESG risks taking effect in 2027.
Looking ahead to the 2026-28 supervisory cycle, the ECB will place even greater emphasis on the underestimation of physical risks and the “insurance protection gap.” As public finances and insurance markets come under strain, the ECB warned that C&N risks will increasingly impact bank balance sheets, making robust, forward-looking risk management a prerequisite for institutional competitiveness.
