One issue threatens not only the capacity of insurers to cover losses but also places clients’ policies in jeopardy. Yet, remarkably, the bulk of the insurance industry appears to be ignoring this threat.
The threat in question is climate risk, with a new report by the Asset Owners Disclosure Project (AODP) entitled
Global Climate 500 Index 2016 Insurance Sector Analysis suggesting that insurers are lagging behind pension funds on climate risk with just one in eight taking tangible action to manage this risk.
Julian Poulter, founder and chief executive of AODP, spoke exclusively to
Insurance Business UK about the report’s findings.
“There are two main risks with climate change,” commented Poulter. “There is the eventual physical impact which to some may seem a long way away but is identified by the insurance industry itself as being increasingly current. We’re not taking a purists’ view of this – the insurance industry says it’s costing them money and we believe them. However, in the shorter and medium term the bigger risk is transition risk. That’s the risk to the assets that insurance companies hold in their portfolios.
“The problem with climate risk and any other geo-political risk is that it has a unique set of attributes. Climate risk, perhaps more than any other risk, is forcing asset owners to examine the way they manage their investments and their business models. It’s long term, it’s high impact and it’s got high certainty – you don’t get that combination of attributes normally.”
According to Poulter, pension funds have realised that some of the approaches to portfolio management don’t fit when it comes to climate risk and they are making adjustments. However, the bulk of major insurers are not and while the problem is greater in the US and Asia compared to most of Western Europe, the UK offers something of a ‘mixed bag’ when it comes to addressing the issue.
Aviva, rated A, is the only insurer to make it into the group of global leaders; while Standard Life has risen 41 places to achieve a C rating – but remains just 88th overall.
“It’s interesting because Aviva, as well as
AXA, both have dedicated fund management groups and that helps them to build up expertise in this area,” said Poulter. “However, what’s clear is that there are some pretty big names down near the bottom of the ranking with Prudential, including its UK arm, not doing very well and nor is the Lloyd’s banking group’s insurance arm. We hope this report will stir up these organisations to improve.”
While the largest 10 laggards – those taking little to no action on climate risk - are predominantly from Asian countries, there are still some notable names who are big players in the UK market. Belgium’s
Ageas, for example, rounds out the 10 largest laggards. Poulter believes that the firms need to take action and take it quickly.
“There is a financial stability risk if they get this wrong,” he said. “The problem with climate risk is that it’s non diversifiable. So this creates a new list of problems for a portfolio manager and if they get it wrong then there will be a march towards correction. With equities that could be an asset value correction and in the case of bonds what you might have is wholesale re-rating and you might see some defaults.
“They need to hire expertise – people who are experienced in looking at these portfolios and these types of risks. It is different when you look at default risks for fixed income products, than when you are, for example, looking at equities. So it’s up to the insurance companies to navigate this.
“Being so heavily fixed income oriented they are greatly exposed to the analysis of the third party, that being the ratings agencies. We’re concerned we’re looking at another case of systemic risk where the ratings agencies have fallen behind. S&P has started to do some work and re-rate some of its bonds but there is still a long way to go for the industry.
“So there is a lot more that an individual insurance company can do – hiring capacity and looking to hedge their bond portfolios by investing in some green offerings is one step. That will create some balance in their portfolio.”
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