Current practices used by investors to assess the financial risk of climate change do not adequately account for "increasingly impactful climate litigation and regulatory enforcement actions," the report said.
"That means investors end up investing in the wrong projects and run risks that neither they nor regulators understand, thereby further aggravating the financial risks climate change entails," said Thom Wezter, the report's lead author and director of the Oxford Sustainable Law Programme, in a news release.
The report counts 2,485 climate lawsuits filed globally against large corporate carbon emitters so far. Chevron alone could be liable for up to $8.5 trillion, the report estimates, and if climate lawsuits against the energy giant succeed, "Chevron's business may in fact be net value destroying," Rupert Stuart-Smith, the report's co-author and senior research associate at the Oxford Sustainable Law Programme, said in the release.
One shortcoming with current practices is that organizations providing frameworks for assessing climate risks, such as the International Sustainability Standards Board and The Network for Greening the Financial System, throw legal risks into a general category of transition risks, with few clues on how to evaluate them, despite growing legal actions, the report said. In addition to the direct threat of climate litigation, companies could also face increased borrowing costs or more stringent requirements for emissions reductions or disclosure, it said.
The report recommends five ways for investors and regulators to assess climate-related legal risks: market-impact analysis; analysis using the social cost of carbon; attribution of climate change damages; estimating costs of accelerated climate mitigation, and qualitative analysis of legal, financial and scientific variables to predict legal action and its financial impact.
For investors to properly understand climate risk exposures, their research should combine legal reasoning with financial analysis and climate science, said Wetzer. "Else, they will continue to fly blind in their treatment of climate risk."