On March 17, 2021, the Commodity Futures Trading Commission (CFTC) announced the establishment of an interdivisional Climate Risk Unit (CRU) to assess the risks to US financial stability posed by climate change. The CRU aims to be a catalyst for change by highlighting the derivatives markets’ role in understanding, pricing, and addressing climate-related risks, as well as its role in the transition to a low-carbon economy.

The announcement was made by Acting Chairman Rostin Behnam, whose efforts to steer the CFTC’s focus toward climate-related impacts on the financial system led to the publication of a landmark report by the CFTC’s Climate-Related Market Risk Subcommittee of the Market Risk Advisory Committee in September 2020. The report, titled “Managing Climate Risk in the U.S. Financial System” (the Report), makes 53 recommendations to help mitigate climate risk to financial markets. See Latham’s discussion of the report here.

According to the Report (and further supported by Acting Chairman Behnam), the legislative establishment of an economy-wide carbon pricing regime to drive allocation of capital to incentives that combat climate change is among the most important of these recommendations. Moreover, the Report highlights the need for regulators to do everything within their mandate to understand and address climate-related financial market risk.

The establishment of the CRU follows from the Report’s “central message” that US financial regulators must recognize climate change risks and “move urgently and decisively” to monitor, analyze, and quantify these risks.

The CRU Agenda

The CRU will work to address many of the Report’s recommendations, and will drive the CFTC’s efforts to combat climate risks by:

• Positioning the CFTC to use its “wide-ranging and flexible authorities” to address emerging climate risks by requiring financial disclosures around climate risk, creating a taxonomy for common risk language, and stress-testing institutions under different climate scenarios
• Leveraging the CFTC’s personnel and expertise in developing and enforcing standards and policies alongside exchanges and self-regulatory organizations
• Allowing for proactive engagement with exchanges, clearinghouses, industry groups, and market participants regarding risks related to climate change and the impact of extreme weather events
• Undertaking research and engaging in ongoing market and stakeholder outreach
• Facilitating the CFTC’s understanding of how new derivatives and products related to climate change fit within and interact with the CFTC’s regulatory and supervisory framework
• Ensuring that new derivatives and products related to climate change are defined by “fair and equitable” hedging, price discovery, market transparency, and capital allocation
• Supporting industry-led and market-driven processes in the climate and environmental, social, and governance (ESG) spaces
• Aiding the collection and usage of reliable climate-related market risk data resources
• Identifying areas for improvement with regard to climate-related regulated products and/or the CFTC’s approach to climate-related market risks
• Participating in US and global forums aimed at building consensus for consistent standards, taxonomies, disclosures, and practices across derivatives products and markets

CFTC at the Forefront

The CRU represents a strong response by the CFTC to the “global call to action on tackling climate change.” The CRU will focus CFTC efforts and resources on the critical task of working with market participants, global regulators, and working groups on forming consistent standards and oversight of climate-risk-related derivatives products.

The CFTC’s announcement was silent on enforcement. However, the agency has extensive enforcement powers in the derivatives markets that it regulates, and also broad anti-manipulation and anti-fraud authority in spot markets. While not immediately apparent, the CFTC may look to wield its enforcement authority in new and innovative ways in climate-related markets.

Under a new US Administration that has demonstrated its intention to reckon with climate change, the CFTC is positioning itself as a key player in building a climate-resilient financial system.