The global re/insurance industry faces both asset and liability exposure to the climate crisis, as well as opportunities to drive meaningful progress towards global resilience. As a result, insurance and reinsurance are crucial elements in a successful and inclusive transition to a green economy, helping clients to implement ESG mandates, as well as focusing on their own ESG protocols. However, to drive real progress, re/insurance needs alignment and clarity from policymakers which will hopefully materialise during this week’s Cop26…
The US state of Texas, with its bone-dry dustbowls, desert dunes and tumblin’ tumbleweeds, isn’t a place usually associated with polar vortexes and Arctic snowstorms. Yet, that’s exactly what happened in February this year, when ferocious winter weather blanketed swaths of the Lone Star State, causing electricity blackouts, burst water-pipes and 210 deaths. The chaotic conditions also resulted in the most expensive insurance payout for cold weather ever: a record $15bn (£11bn).
It highlights the capricious vagaries of the climate crisis in 2021, which has been something of an <annus mirabilis> for extreme weather: suffocating heatwaves in Canada and the US north-west, the highest-ever recorded temperature in Europe (48.8C in Sicily), devastating floods in Germany and never-seen-before snowfalls in Spain. According to professional services firm Aon, the litany of disasters during the first half of 2021 will see insurers pay out $42bn (£31bn) for insured losses: the largest amount of compensation paid since the 2011 Japanese tsunami. But like John Dryden’s famously poem of the same name, 2021 could be a year that (finally) drives global stakeholders to make meaningful and lasting change.
“The rise in extreme weather and claims has accelerated the importance of environmental, social and governance (ESG) issues within the insurance industry,” says Meredith Jones, Aon’s Global Head of ESG. “Today, ESG is no longer a niche area for many insurance firms, but an indispensable part of their risk management and opportunity development framework.”
But while the ever-evolving insurance and reinsurance industry can play a pivotal role in the transition to a green economy, as we find out here, progress will be slow without the help of governments and regulatory bodies. With the Cop26 climate conference currently taking place in Glasgow, it’s hoped ESG will be pushed further up the agenda with climate change disclosure and targets becoming mandatory and more uniform. …
What role does the re/insurance industry play in the climate crisis?
A pretty big one. For a start, industry underwriters have been using advanced weather forecasting and detection technologies for decades; its risk management expertise on meteorological anomalies is second-to-none. As such, re/insurers can advise policymakers on climate change (adaptation) and give guidance to national economies hoping to meet carbon-neutral 2050 pledges (mitigation) .
The industry can also help businesses and individuals in developing countries too, many of which are uninsured and therefore more vulnerable when extreme weather events happen. In the past decade, only 12% of economic losses in Asia were covered by insurance (in Latin America and Africa, almost all losses were uninsured). In the aftermath of a destructive typhoon or flood, local businesses and individuals find recovery difficult as they’re often dependent upon state or international aid. With many weather events such as hurricanes or drought being modelable, being insured will help build global economic resilience, perhaps even ending the never-ending cycle of disaster and aid.
In 2020 Aon found the global “protection gap” – the difference between the economic costs of natural disasters and the value of assets covered by insurance – reached $171bn (£124bn). This could be reduced via tools such as catastrophe bonds. Known more commonly as cat-bonds, this insurance is paid out following a natural disaster, if certain conditions are met. It’s increasingly popular with investors and corporations, who get their money back (with interest) if the tragedy does not strike.
How are stakeholders driving the importance of ESG issues in the re/insurance industry?
Stakeholders such as employees, society and investors increasingly expect companies to incorporate ESG in their everyday activities, often scrutinising and screening them on how they address environmental, social or governance issues. For examples, investors placed a record amount of assets into ESG or sustainable mutual funds in 2020 (USD 51.1b), making it the fifth consecutive year of record-breaking investments as well as double 2019’s total haul, according to Morningstar.
Investors and regulatory bodies are also increasingly demanding that companies report on their ESG and climate change risks, such as use of water and electricity and diversity. In the UK, this could happen within the next five years. Last year, the government announced it will be mandatory for large companies (including many insurance firms) to declare their exposure to climate risks by 2025. Such disclosures may even lead to litigation, and the United Nations Environment Programme (UNEP) has already seen cases double just over the last three years.
As ESG and climate change risks become clearer, rating agencies such as AM Best and DBRS Morningstar are evaluating insurers on how they implement ESG risk management too.
What is the re/insurance industry doing to improve its ESG credentials?
Alongside ESG commitments towards net zero, diversity and workforce resilience, Aon has also established the Aon ESG Think Tank, a worldwide coalition of more than 80 employees, who work to provide innovative insurance, investment, and disclosure solutions for its clients on climate change and ESG. The business is also leveraging its weather-related data and expertise by providing catastrophe, climate change and economic models to help better identify the risks associated with global warming.
Many re/insurance firms have pulled their cover for oil, gas, hydrogen and nuclear power companies. Insurers are also adding ‘build back better’ clauses to home insurance policies to encourage customers to rebuild homes with more sustainable materials. As mentioned above, re/insurance organisations are also increasingly identifying exposure to climate-risks through annual financial and sustainability reports.
There could be more industry-wide collaboration too. The industry has more than $30tn of investments; earlier this year the ClimateWise coalition of insurers (which includes Aon) proposed this sum could be used to help governments build resilient solutions to floods, storms and heatwaves. Meanwhile, the Sustainable Market Initiative Insurance Taskforce (which comprises 17 organisations including Aon) has pledged to expand insurance coverage for projects such as offshore windfarms and provide better disaster protection cover for those countries most at risk from extreme weather.
What does the re/insurance industry hope will be achieved at Cop26?
“We’d like all participants, whether the are insurers, governments, corporate issuers or investors, to not only commit to keep global warming to 1.5 degrees, but outline concrete and unambiguous plans to meet this goal,” says Meredith Jones. “Cop26 isn’t going to solve the issue of climate change on its own, but it can move us towards agreement on disclosure, targets, metrics and timelines, and encourage innovation and product evolution through the risk financing chain.”
How can Aon help companies meet their ESG commitments?
“Aon has an extensive range of data and analytic capabilities that can help clients make better and more sustainable decisions,” says Jones. This data and analysis – which includes risk tools, climate change scenarios and models, peer data and pattern recognition – can help identify ESG and climate risks and opportunities for clients, and help them mitigate and disclose risks as well. Aon’s global team of advisers can work with companies on ESG topics ranging from climate change to diversity, equity and inclusion, and the firm has some innovative products up its sleeve as well.
“Insurance and reinsurance are key components of the global risk financing required to successfully navigate the climate crisis,” says Jones. “Our industries can serve as both an instrument and accelerator for mitigation and adaptation efforts, and by developing innovative re/insurance solutions, we can help ensure an inclusive transition towards a sustainable future.”