EBA publish final ‘Guidelines on Environmental Scenario Analysis’: What European banks need to know about the future of managing ESG risks

On 5 November, the European Banking Authority (EBA) published its Guidelines on Environmental Scenario Analysis. These Guidelines complement the EBA’s earlier Guidelines on the Management of ESG Risks and were previously discussed in a dedicated 4most article.

The newly issued Guidelines clarify the criteria for setting scenarios that are used by institutions to assess their resilience to the long-term adverse impacts of ESG factors, under both baseline and adverse scenarios.

Building on the consultation paper published earlier this year, the final Guidelines introduce several important refinements:

• The scope is now explicitly focused on environmental risks, with priority given to climate-related risks; future extensions to social and governance factors remain possible as methodologies mature.
• The application date has been deferred to 1 January 2027 for all institutions, replacing the previously proposed timelines.
• A strong emphasis is placed on proportionality. While large institutions are expected to apply quantitative approaches, smaller and less complex institutions may rely on qualitative methods.
• Sensitivity analysis is explicitly recognised as a pragmatic and proportionate tool to explore emerging risks and very long-term uncertainties where full scenario analysis is not yet feasible.
• Expanded guidance on identifying transmission channels, setting scenario criteria, and clarifying the distinction between Climate Stress Testing (CST) and Climate Resilience Analysis (CRA).

In this article, we summarise the key elements of the new Guidelines and outline practical strategies to help institutions enhance alignment with the EBA’s expectations. We also highlight industry-wide themes and challenges that warrant further attention as firms continue to strengthen their environmental scenario analysis frameworks.

Purpose, governance and proportionality

The Guidelines emphasise that environmental scenario analyses should be used to identify business risks and opportunities, assess vulnerabilities to physical and transition risks, test resilience to potential adverse environmental impacts, and inform strategic and transition planning. Financial institutions are expected to clearly articulate the purpose, expectations, and limitations of their analyses.

Institutions are required to conduct a materiality assessment to identify material environmental risks, in line with the Guidelines on the management of ESG risks. Material risks should then form the focus of their scenario analysis. The sophistication, scope, and frequency of these analyses should be proportionate to:

• the materiality of the identified risks,
• the maturity of available methodologies and industry practices,
• the institution’s internal capabilities, and
• the expected benefits.

Where detailed quantitative approaches would be disproportionate to an institution’s capabilities or the expected benefits, simplified approaches are allowed.

Transmission channels, scenarios, and sensitivity analysis

For the development of environmental scenario analysis, institutions should identify transmission channels and construct scenarios. Before defining environmental transmission channels, institutions are expected to identify the relevant transition and physical risk drivers, supported by reliable data sources, transparent methodologies, and well-documented assumptions.

The identification of risk drivers typically begins with a broad list of potential drivers spanning portfolios, products, sectors, and geographies. This long list should then be narrowed to a focused set of material drivers through qualitative assessment. Importantly, institutions should select data sources based on the risk drivers deemed relevant, rather than allowing data availability to determine which drivers are considered. This approach ensures that key risks are not overlooked simply because data is limited.

Scenario development should be grounded in an understanding of the factors shaping both climate and broader environmental risks and entity specific. Institutions are expected to consider recent scientific knowledge and resources provided by internationally recognised bodies such as the IPCC or NGFS.

The choice of scenarios must reflect the objective, scope, and granularity of the analysis, while remaining aligned with the institution’s specific portfolio composition and business model. Both physical and transition risks should be captured, and the scenarios used must be internally consistent.

Climate stress testing and climate resilience analysis

The Guidelines distinguish between Climate Stress Testing (CST) and Climate Resilience Analysis (CRA), each serving a different purpose and time horizon.

CST is designed to assess a bank’s overall financial resilience over the short to medium term, covering a horizon of less than five years. When applying CST, institutions are expected to first validate environmental risk models independently before integrating them into broader frameworks. Institutions are also expected to reflect industry and geographical dimensions and to apply environmental shocks at the exposure level, or at the group level where materiality primarily stems from concentration risk. A constant balance sheet assumption is allowed, but banks are encouraged to incorporate significant portfolio composition changes during the stress test period.

CRA, by contrast, focuses on challenging the robustness of a bank’s business model over the medium to long term, extending beyond a ten-year horizon. The Guidelines emphasise the need to assess the broader environmental and macroeconomic context, including relevant feedback loops, and to produce long-term projections of risk-adjusted profitability and key performance indicators. These projections should be based on a constrained and dynamic portfolio that remains aligned with the institution’s existing strategy.

How should banks prepare?

We expect banks to create a detailed plan for 2026 to implement these Guidelines. This plan should consider their current capabilities for CST and CRA, as well as developing credible and coherent scenarios and narratives. Institutions should rely on their ESG materiality assessments which have identified their most significant environmental risk exposures. Building on this foundation, banks can then define relevant transmission channels and design environmental scenarios that are fully aligned with the EBA’s guidance, positioning them for effective and compliant implementation by the application date.

Get in touch

Send us an email if you want to discuss these regulatory changes in more detail or to explore how we can support your organization’s ESG scenario planning – info@4-most.co.uk