The Business of Climate Change

The latest annual report on climate change prepared by Swiss Re was released on April 22, not coincidentally the 51st anniversary of Earth Day.

As it does every year, the large global reinsurer stress-tests how global warming will affect the GDP of 48 countries. Needless to say, the news is not good.

The report predicts that, if nothing is done to combat climate change in the next 30 years, temperatures could rise by more than 3 degrees Celsius, causing the entire global economy to shrink by about 18%. China would lose nearly one quarter of current GDP, the United States around 10% and Europe almost 11%.

Alternatively, the report projected that, if 90 % of the world’s countries committed to global accords like the Paris Climate Agreement and took mitigating actions right now to reduce their carbon footprints, the impact on GDP would be commensurately less. Meeting the Paris Agreement targets by 2050 would result in temperatures increasing by less than 2°C. In turn, this would shrink global GDP by 4%, “just a fraction of the loss in global GDP that we face if we don’t take appropriate action,” says Jérôme Haegeli, Swiss Re group chief economist. “So far, too little is being done,” Haegeli warns. “Only if the public and private sectors pull together will this be possible.”

Climate change poses the biggest long-term threat to the global economy, the report states. Mitigating this economic impact is challenging but not impossible. The problem for many companies across diverse industry sectors is how to transition to a net-zero economy, the term describing the balance between the amount of greenhouse gases produced and the amount removed from the atmosphere.

The anticipated costs of this transition are substantial. In 2019, 215 of the world’s largest companies reported they confronted nearly $1 trillion in risk from climate change impacts, with some of these impacts expected to occur within the next five years.

Not just the oil and gas sector is struggling to transition to a more sustainable business model. Every public company may soon need to disclose its sustainability initiatives to investors, customers, employees and the public. Financial services providers like banks and insurance companies already are being held accountable by investors for their funding or underwriting of companies with large carbon footprints. And privately held companies may soon confront similar accountability demands.

In all these cases, there is a role for insurance brokers to step in and make a difference. Several brokers have signed the United Nations Principles for Sustainable Insurance, the international framework for the insurance industry to leverage its unique risk expertise in creating a more resilient planet. In effect, these brokers are committing to helping clients transition to the Paris Agreement’s net-zero emissions target by 2050.

“Insurance brokers have so much to offer,” says Gregg Gelzinis, associate director for economic policy at the Center for American Progress. “Brokers’ core business is understanding climate risk historically. If they extrapolate this historical data to think through and model the emerging risks, the information can then be strategically used by their clients to reduce their climate exposures.”

Given brokers’ in-depth understanding of the risk profiles of clients, they can encourage insurers to align their coverage terms, conditions and pricing with a company’s sustainability actions. Premium rebates and other incentives, for example, can be formulated to compel a business to improve a property, resulting in less risk, lower insurance costs and reduced emissions.

Take, for example, a company in the hospitality industry. “The problem with a lot of hotels is that they’re located along seashores and in the mountains, the places most exposed to extreme weather events like hurricanes, floods and fires,” says Lindene Patton, a partner at the Earth Water & Law Group, a Washington D.C.-based law firm specializing in environmental advisory and litigation.

“A broker can work with a carrier to provide a premium credit for the installation of more resilient windows and fire-resistant siding or to replace a diesel generator with a solar-powered generator,” she says. “That’s a win-win-win—reducing insured losses and energy costs through better insulation to the betterment of the planet.”

U.S. Government Turnabout

It’s a compelling value proposition for brokers to consider, particularly in the current political climate. President Joe Biden has declared environmental sustainability a key governing goal. Biden’s “Plan for a Clean Energy Revolution and Environmental Justice” restores virtually all of the regulations removed by former President Donald Trump, and Biden has described one mission of his $2.25 trillion “American Jobs Plan” to be “conserving the environment for future generations.”

These tax-funded initiatives run a wide gamut—federal money given to innovations in clean energy; the development of electric USPS, school and transit buses; point-of-sale rebates and other incentives encouraging consumers to buy electric vehicles; and a national network of 500,000 electric-vehicle chargers. And that’s just the short list.

Biden views climate change as an existential threat, and his actions suggest extreme urgency. Within his first hours in office, Biden rejoined the United States in the Paris Agreement, revoked the permit for the Keystone XL oil pipeline, ended new leases for oil and gas drilling on federal lands, and ordered an end to fossil fuel subsidies. Over the next few days, he created a National Climate Task Force, a White House Office of Domestic Climate Policy, and a new post within the National Security Council—climate envoy—to which he appointed former U.S. Secretary of State John Kerry.

Biden’s “clear message” to American businesses is to “put their house in order sooner than later,” says Gelzinis, who worked previously at Swiss Re and, before that, as a fellow in the U.S. Treasury Department during the last year of the Obama administration. 

U.S. Insurers Lag Europe in ESG

“Insurers need to decide where they stand on climate change—whether or not they will exclude companies in their underwriting and investments that continue their carbon-intensive practices, or don’t make an effort to transition to a net-zero economy,” Gelzinis says.

It is in the financial interests of insurance companies to exclude such companies in their underwriting and investing decisions, he says. “The rise in sea levels and the increase in the frequency and severity of damaging hurricanes, droughts, fires and floods caused by climate change will result in higher claim activity and related losses for insurers and reinsurers,” he explains.

Many insurers also confront significant reputational damage by sticking with the status quo. According to a special report by ratings agency A.M. Best in November 2020, carriers that ignore environmental, social and governance (ESG) risks are at risk of damaging their reputation, creating investor and customer repercussions that may adversely affect their creditworthiness and rating.

“Insurers and reinsurers occupy a unique position in the ESG space, as both risk carriers and institutional investors,” the report states. “Therefore, ESG factors have the potential to affect both sides of their balance sheets and impact their results, throwing the spotlight on the importance of integrating them into underwriting and investment activities.”

According to Insure Our Future, a coalition that seeks to hold the insurance industry accountable for its role in the climate crisis, U.S.-based insurers lag their European counterparts in integrating climate change into underwriting and investment decisions. Only eight U.S. carriers have restricted insuring or investing in coal companies; four have restricted insuring or investing in companies in the tar sands oil sector; and none have restricted the underwriting of policies in the oil and gas industry.

“Some U.S. insurers are still supporting fossil fuel expansion worldwide, whereas their European peers like AXA, Allianz, Swiss Re and Zurich have all made commitments to phase out coal and Australia’s Suncorp has ended insurance for new oil and gas extraction,” says Ross Hammond, the coalition’s U.S. coordinator.

“U.S. insurers are not moving nearly fast enough to make net-zero commitments,” Gelzinis says. “In many but not all cases, they put out statements that they won’t underwrite or invest in companies that do this or don’t do that by 2050, which is more hand-waving than anything else.” He said European reinsurers like Allianz, Swiss Re and Zurich “are ringing the alarm bells louder” than U.S. insurers “because they take a longer view of climate risk and don’t like what they see.”

Others maintain high hopes for U.S. insurers. “The industry’s concern over sustainability has gone up an order of magnitude in just the past few years,” says Peter Sousounis, vice president and director of climate change research at AIR Worldwide, a U.S.–based risk modeling and data analytics company whose clients include insurers and reinsurers.

“Fifteen years ago, few insurers were concerned about climate change, because it appeared to be changing slowly, giving them time to adjust their rates,” Sousounis says. “These days they have a more farsighted view because of the concerns expressed by reinsurers and investors.”

AIR Worldwide insurer clients today generally request the firm model its property catastrophe risks over a 10- to 15-year time horizon, Sousounis says. The somber findings are encouraging the insurers to reconsider underwriting or investing in businesses that contribute to global warming. “The underwriting emphasis is now more squarely focused on insureds’ management of transition risks—proactive measures, like carbon sequestration, they take to reach net zero.”

Broker Opportunity

In their distinctive role as a trusted intermediary between corporate clients and insurance markets, insurance brokers are in a unique position to compel the changes needed to attain a net-zero economy. “By helping clients identify, measure and manage their transition risks, brokers can align these businesses with insurers offering favorable coverages and pricing,” Gelzinis says.

In other words, brokers have the opportunity to accomplish two goals at the same time—help clients transition to lower carbon-intensive activities and encourage insurers to provide better underwriting terms to these clients because of their improved sustainability profile. As Patton puts it, “The more that brokers become educated on the core components of climate change and the technologies that support energy efficiency and resilience, the better they can assist carriers to develop new insurance products supporting these efficiencies and resilience.”

Gelzinis agrees that brokers have the clout to encourage carriers to do things like write multiyear property and environmental liability insurance policies. “A company with a big carbon footprint that’s shut out by most carriers can always find an insurer that will write its business with a one-year policy at a higher premium, which does nothing to incentivize the company to make needed changes,” he says.

Brokers can encourage insurers to offer a multiyear policy to the company at guaranteed annual premium rates, he says, in return for the company’s pledge to reduce its annual carbon footprint or reliance on dirty electricity sources by a certain percentage.

Others share this perspective. “As climate change intensifies, brokers are in a prime position to bring together their clients with the carriers to figure out ways to mitigate the effects of climate change and guide the development of insurance treatments that further incentivize these,” says Charlie Quann, senior manager at Antea Group, where he leads the sustainability consulting firm’s carbon services practice. “Brokers have these front-row historical insights into what has happened before, helping companies prepare for this future. As a consulting firm in this space, we lack the hard numbers that brokers have access to. A collaboration would prove fruitful for all parties concerned.”

Nicole Bouquet, associate director at ISS Corporate Solutions, whose mission is to help companies manage their sustainability programs in alignment with corporate strategy and goals, said the firm also would be open to a collaborative partnership with an insurance broker. “Given the depth of climate risk data that brokers have accumulated, they can partner with organizations like ours to really make a difference,” Bouquet says. “Companies are finding it difficult to fulfill the requirements of the Paris Agreement and other climate regulations. Even a small change in a client’s sustainability disclosures can have a big impact on how it competes for capital and insurance solutions.”

Some brokers, particularly those who serve clients in the environmental spotlight, have already begun consulting with their clients on transitioning to a net-zero profile. “Our publicly traded oil and gas clients have to disclose their material risks, of which environmental sustainability is a key one today,” says Craig Halpern, vice president of risk innovation and strategy at IMA Financial Group. “They know they need to have a positive ESG profile. We’re here to help them.”

Halpern provided several examples in which brokers can offer advice on transitioning, such as injecting carbon dioxide emissions from liquefied natural gas (LNG) into abandoned wells. “Over time, the CO2 re-calcifies into calcium carbonate, which can be sold to industries that use calcium carbonate in their products,” he says.

Synapse, one of the largest environmental wholesalers in the United States, is providing similar consultative services. “We just collaborated with a midstream pipeline company that runs crude from Los Angeles to San Francisco about their role in environmental governance,” says Synapse managing partner Daniel Beck. “We looked at their processes and came up with the idea to sequester carbon and turn it into an aggregate compound, a new product line for them.”

So is Antea Group, which is engaged with a Canadian downstream oil and gas company looking to transition its business model, says Owen McKenna, Antea’s senior manager for financial services. “They needed to pivot from gas stations in provinces like Quebec that have outlawed the sale of gas-powered cars by 2035,” McKenna says. “We’re helping them turn the gas stations into corner markets.”

Environmental liability issues associated with service stations challenge the transition. For example, McKenna notes the importance of assessing and quantifying the site-related risks of subsurface contamination, in compliance with the Canadian Environmental Protection Act. “There’s great opportunities for brokers that get in front of these historic industry transitions,” McKenna says.

Halpern agreed, advising fellow brokers to put time into crafting a compelling narrative in their insurance submissions that spotlights a client’s transition efforts. “We’ve begun doing this for the 30% of our clients in the upstream oil and gas industry, emphasizing their transition in the introduction or an addendum to receive preferable terms, conditions and pricing,” Halpern says.

The effort is worth the potential outcome. “Firms like McKinsey, Bain and the Big Four are consulting to clients on their ESG disclosures, but they don’t have the data or risk management expertise brokers have,” Halpern says. “There are opportunities for brokers that align with boutique environmental consulting firms to compete. We’ve discussed doing this internally and have put together an ESG task force to look at it.”

By and large, the brokers see an expanded role for the industry, one that will help clients, carriers and their standing as socially responsible organizations. “It’s an exciting time for us to be able to sit down with CEOs and CFOs of companies concerned about their sustainable practices,” Beck says. “Other brokers can do the same. We have a role as members of society to do whatever we can to level off the disasters we’ve experienced these past few years. Inertia just doesn’t cut it.”