4.1. Purpose

Institutions should develop forward-looking approaches and perform scenario analyses to manage environmental risks and inform strategic decisions. More specifically:

• a. Institutions should use scenario analysis for the purposes of identifying business risks and opportunities, assessing the vulnerabilities of their portfolios to physical and transition risks, and testing their resilience to potential negative impacts of environmental factors, starting with climate change.
• b. Institutions should use scenario analysis to support the development of their strategy and transition planning process as set out in the EBA Guidelines on the management of ESG risks and challenge their business model in terms of resilience to environmental factors, including in the long-term horizon.
• c. Institutions may also use scenario analysis to raise awareness and support embedding environmental risks in their corporate culture.

When performing scenario analysis, institutions should ensure clarity in the purpose, expectations and limitations of the analysis.

From the outset, institutions should define a credible and coherent narrative that describes their vision of the most likely evolution of the business environment in which they operate. This narrative should serve as a foundation of the institution’s reference scenario as referred to in section 4.2. It should be endorsed by senior management and used consistently (i.e. considering the same narrative) across the entire organisation.

Institutions should develop and implement scenario analysis gradually, with the aim of embedding it in their entire management framework (i.e. strategy, governance, risk management and operations). When using scenario analysis to test the resilience to potential negative impacts of environmental factors, institutions should consider the following two complementary tools in accordance with Section 5:

• a. The stress test which can help institutions assess their financial (both capital and liquidity) resilience to environmental shocks in the short-term.
• b. The resilience analysis which should help institutions assess and, where necessary, adapt their business model to ensure its resilience in the face of medium- to long-term environmental shifts. FINAL REPORT ON GUIDELINES ON ENVIRONMENTAL SCENARIO ANALYSIS