Climate risk puts insurers on the hot seat
Insurers should expect increasing pressure to go beyond risk assessment and reporting by taking a more proactive role in reducing carbon emissions.
Insurers are no strangers to climate risk, given the billions of dollars carriers lay out annually to clean up property damage and prevent future losses from windstorms, flooding and wildfires. Yet as global temperatures continue to rise and weather patterns keep shifting, societal expectations about the role of insurance in controlling environmental exposures is rapidly evolving as well, putting the industry squarely on the hot seat.
The industry’s call to action
Insurers are coming under increasing pressure from a wide range of stakeholders to shift their emphasis from traditional risk transfer, disaster recovery and pre-event adaptation efforts to more proactively address the problem of climate change at its most likely source — that is, by limiting carbon emissions. Consider the following developments cited by insurer chief sustainability officers or their equivalents in a recent series of interviews with the Deloitte Center for Financial Services:
- Regulators and legislators on the state, federal, and global levels are demanding additional data, greater disclosure, and more precise risk assessment on both the asset and liability side of insurer balance sheets.
- Rating agencies and independent sustainability assessment firms are raising the bar as well, seeking greater transparency on insurer climate risk exposure while scrutinizing their modeling tools, mitigation plans, and strategies to decarbonize underwriting and investment portfolios.
- Institutional investors are often performing their own assessments of individual company efforts to cut climate risk before committing capital to insurers.
- Advocacy groups are calling for greater insurer commitments and more tangible results in closing the insured protection gap for climate-related natural catastrophes, as well as adopting more environmentally-friendly policies internally and externally.
- Policyholders and employees are becoming increasingly aware and concerned about their insurance company’s climate risk policies and activities.
To some extent, this heightened attention has been prompted by the change in administrations and control of the U.S. Senate, with climate risk being put on the front burner. But even before the leadership shift in Washington, state insurance departments had started raising red flags about the potential damage climate risk could cause to company balance sheets on both the business and asset side. A survey of state regulators two years ago by the Deloitte Center for Financial Services found that one-third of respondents could not say for sure whether insurer risk models were up to the challenge of capturing and testing climate-related risks, while few said they felt insurers were largely or fully prepared to deal with rising climate exposures.
Since then, many insurers have appointed chief sustainability officers or their equivalents to orchestrate expanded reporting, and more robust action plans on climate risk and other environmental, social and governance (ESG) issues. Deloitte’s interviews with insurers about their ESG strategies found most working diligently to get a better handle on climate exposures and be more transparent about their risk profile and mitigation efforts.
Many insurers will soon face new climate risk reporting expectations to be laid down by the New York Department of Financial Services. Based on public feedback collected through June 23, the department plans to issue a timeframe by which insurers should have fully embedded approaches to climate risk management in their governance structures, risk management frameworks and processes, business strategies, metrics, targets, and disclosure methods. Several U.S. senators have also been demanding more information from insurers along these lines.
Given the increasing frequency and severity of climate-related events as well as changes in the political dynamic, insurers should expect to face increasing pressure to go beyond risk assessment and reporting by taking a more proactive role in reducing carbon emissions. A growing number of insurers have already announced plans to reduce their own company’s carbon footprint, as well as cut back on coverage for and investments in fossil fuel providers and other outfits that don’t follow targets set in the multilateral Paris Climate Agreement.
A three-pronged approach
To meet rising expectations from a wide range of stakeholders, insurers should consider implementing several interdependent climate risk management strategies, according to a Deloitte report released this month, “Centering around sustainability in financial services firms: Navigating climate risks while finding opportunities.” The report proposes a three-pronged approach, including:
- Adopting a climate-infused governance and corporate strategy, in which climate considerations are accounted for in strategic decisions across the enterprise from underwriting through investment, thereby institutionalizing the mindset.
- Accelerating product and service innovation to close the coverage gap for uninsured climate-related losses, address market demands for new forms of environmental sustainability and protection programs, as well as promote climate-conscious policies more broadly through external partnerships and advocacy.
- Enhancing risk management capabilities by adding new types of data and bolstering catastrophe models, thereby enabling insurers to more effectively predict and manage the financial implications of climate risk as well as improve mitigation outcomes.
Insurance agents should play a prominent role as well since they are the ones on the front lines with clients helping manage and mitigate climate risks while often being seen as the face of the insurer and the industry. In a presentation this month to the Professional Insurance Agents of the Northeast, I noted that agents are well-positioned to educate customers about the importance of mitigation and influence legislators on adaptation and decarbonization efforts, given their historically potent lobbying power in state capitals and Washington.
While many national and international insurance brokerage firms are already engaged in climate risk mitigation and broader sustainability concerns for larger policyholders, rank and file independent agents across the country could amplify the impact of such efforts by working with mid-sized and smaller clients on their climate risk reduction efforts.
For the industry as a whole, “there’s an enormous opportunity on the horizon for those who can effectively mitigate climate risk,” according to Deloitte’s recent report. “Differentiation is as difficult as it’s ever been in the financial services industry. Being climate-centered — and building businesses and practices around the end state discussed here — can be a powerful lever to help companies rise above collective commoditization.”
Taking the lead
Insurers have the chance to help lead the transition to a more environmentally sound world, given their influence as climate risk coverage underwriters, loss control experts, and institutional investors. Such efforts can help insurers achieve what Deloitte characterized as a “higher bottom line” in another recent Deloitte report on “The future of financial services,“ which urged companies to adopt business models that “value the future of our planet and people just as much as profits.”
Former NU Property & Casualty magazine Editor-in-Chief Sam J. Friedman (samfriedman@deloitte.com) is insurance research leader at the Deloitte Center for Financial Services. These opinions are his own.
This piece is published with permission from Deloitte and may not be reproduced. See www.deloitte.com/about to learn more about Deloitte’s global network of member firms.
Follow Sam on Twitter at @SamOnInsurance, as well as on LinkedIn.
Read more columns and analysis by Sam J. Friedman: