The German Federal Financial Supervisory Authority presented its publication „Risks in BaFin's Focus 2025“ in Frankfurt last week, and announced a clear shift in priorities in dealing with climate risks. While transition risks on the way to a low-carbon economy remain relevant, the supervisory authority is placing a stronger focus on physical risks this year.

Physical risks arise from the specific impact of climate change, such as extreme weather events like fires, floods or droughts. „We all remember the devastating fires in California or the floods in Valencia. These disasters show how far-reaching the impact of physical climate risks can be – even on the financial sector,“ says BaFin President Mark Branson.

According to Branson, physical risks are becoming increasingly important as they have a direct impact on banks‘ loan portfolios and insurers’ loss amounts. „In Europe, more than 30% of the annual budget for natural catastrophes could be used up in the first few days of the year,“ explained Branson, referring to estimates by rating agencies.

BaFin sees problems in dealing with the data required to assess these risks. „Banks in particular often lack location data that would allow them to accurately assess physical hazards such as flooding. Insurance companies also reach their limits when assessing natural hazards, for example due to a lack of information on flood protection measures or regional building regulations,“ says Branson.

The risks of physical climate change are not only relevant for global companies, but also for regional banks, which often operate on a geographically restricted basis. An extreme weather event can affect many customers and employees at the same time. Specialised business models, for example in agriculture, are also increasingly at risk.

Another key problem is the insurability of property and other assets. „In some regions, particularly in the USA, insurers are already pulling out. This is leading to insurance gaps and poses the question for banks as to whether property can still be financed at all under these conditions,“ says Branson.

He emphasised that historical data is becoming less and less meaningful, as the risk situation is changing dynamically. Scenario-based approaches and forward-looking risk management are therefore essential. „We can't wait until the next disaster strikes. A proactive approach not only protects the solvency of financial companies, but also drives forward preventative measures,“ said the BaFin President.

In addition to climate risks, BaFin also addressed technological risks, in particular quantum computing. This new technology has the potential to fundamentally jeopardise the IT security of the financial sector, as it could overcome established encryption systems such as RSA. „Data can be stolen today, and decrypted later, if powerful quantum computers are available,“ warned Branson.

Financial companies therefore need to identify data that could be at risk at an early stage, and develop flexible protection concepts. The aim is to implement so-called post-quantum cryptography in order to secure sensitive data in the long term. Branson emphasised that the time to act is now.