This handbook and framework by the Cambridge Institute for Sustainable Leadership (CISL) emphasises our economic dependence on the services that nature provides, which have an estimated value in the trillions. As nature declines, this value is eroded and businesses, households, and financial institutions are put at risk. Three major sources of nature-related financial risks are identified:

• Physical
• Transition
• Liability

Physical risk refers to the physical decline of nature, such as deforestation, leading to a reduced capacity for nature to provide ecosystem services either temporarily or permanently, on which companies depend. Parallel to physical risks, transition and liability risks emerge. These encompass the development of policy and regulation to protect nature (transition) and concurrent legal action taken against institutions that violate them (liability). Together, physical, transition, and liability risks can drive the reorientation of portfolios and economic activity, thus resulting in the re-direction of capital into services that benefit people and nature.

The handbook identifies five key sources of nature loss. These are:

• Climate change
• Invasive species
• Land-use change
• Overexploitation of natural resources
• Pollution of air, land, or water

Driven by the above, nature loss becomes a financial risk when physical, transition, and liability risk manifest, causing negative impacts upon:

• Companies and governments, to which financial institutions are exposed via loans, debts, equity holdings, and revenues.
• Financial markets, including commodity and money markets, to which financial institutions have exposure through investments or financial services.
• The operations or property of financial institutions.

CISL cautions that these exposures lead to credit, market, liquidity, and business risks.

The connections between the sources of nature-related financial risks identified above and the financial system are called ‘transmission’ channels. This concept of transmission channels is used to analyse how ‘real’ and financial economies are linked and are classified as either ‘acute (sudden/event-driven) or ‘chronic’ (build slowly over time). De Nederlandsche Bank (DNB) identifies six types of economic impact (transmission channels) that can be caused by nature-related financial risks and then transmitted into the financial system. These are:

• Disruption of activities or the value chain
• Raw materiality price volatility
• Pricing externalities
• Stranded assets
• Adjustment or relocation of activities
• Capital destruction

Equipped with knowledge about the physical, transition, and liability risks related to nature loss, and the transmission channels that connect these risks with the financial world, it is possible to create a framework for identifying nature-related financial risks. This framework is presented here and observes the following steps:

1. Choose a type of Risk
2. Choose the ways risk can manifest
3. Use knowledge of risk manifestation and sector value chain to provide examples regarding the impact on companies
4. Given the impact on clients or investments, provide examples of reluctant financial risks

Overall, assessing nature-related risks brings the financial materiality of nature loss into sharp focus, thus making a compelling business case for financial institutions to engage with risk mitigation strategies that protect and restore nature. Furthermore, it creates opportunities to design new investment, hedging, and insurance products that drive change in the real economy for a nature-positive future.

1. This handbook and framework provides a foundation for nature-related risk identification and management that can be adopted by any and all financial institutions, particularly those that have little to no previous knowledge of the way a decline in nature generates financially material risk to businesses. CISL calls on the financial community to use the handbook to begin the journey of embedding nature into financial decision-making so that we can begin to rewire the economy to protect and restore the natural world.
2. When reading this report, investors should use the steps in the framework to consider how drivers of nature loss might be impacting the businesses and sectors in their unique portfolios, from the source of nature loss, to the transmission channel through which this source manifests itself as financial risk. Note that first order effects (risks that have direct impacts to business), will be much easier to identify than second order effects (risks that have indirect impacts to business, like risk resulting from flow on effects), meaning that identifying and managing risks to commodity linked sectors like agriculture will be simpler than that of say, the finance sector.
   
   
   
3. During usability testing of the framework, financial institutions recommended applying it to one sector at a time, though the framework could also be applied to specific geographies as well. In consideration of these recommendations, the paper presents an assessment of a single sector; the agriculture sector. As financial institutions continue to use the framework, this approach may evolve to ensure it remains as accessible and useful as possible.
4. The concept of achieving a 'nature-positive' economy is highlighted throughout the handbook. It is important for readers to understand this concept as it articulates the economic paradigm that the handbook is working to support and actualise. According to CISL a 'nature-positive' economy refers to an economy in which public and private sector actors, through choice and incentive, take action at scale to reduce and remove the drivers and pressures fuelling the degradation of nature, thus actively improving the state of nature (natural capital) and the ecosystem services it provides.
5. A number of key tools and initiatives are cited that may be of further assistance to those beginning to consider nature-related risks. These are: the CISL Biodiversity Impact Metric (good for the agriculture sector), the Integrated Biodiversity Assessment Tool (data on threatened species, protected habitat and key biodiversity sites) and the WBSCD Guide to Corporate Ecosystem Valuation.