AM Best
ESG: investor pressure adds momentum for reinsurers
Against a background of increased legislative and regulatory scrutiny of companies’ sustainability practices, investor pressure is emerging as another important driver of ESG action, particularly for reinsurers, say AM Best’s Jessica Botelho-Young and Ghislain Le Cam.
“Without reliable ESG information, financial markets will find it challenging to price related risks and opportunities accurately.”
Jessica Botelho-Young, AM Best
“The Norges Bank report revealed the fund’s climate conversations with invested companies have expanded beyond just polluting activities.”
Ghislain Le Cam, AM Best
In a recent AM Best survey of European and Asia-Pacific-based re/insurance companies, all the listed reinsurers that participated—including five of the 10 largest reinsurance carriers by non-life gross written premium—reported investors were the most (or second most) important source of pressure to consider environmental, society and corporate governance (ESG) risks and opportunities.
Three of the top five said investors were exerting high or significant pressure on them to consider ESG risks and opportunities. The other two cited moderate pressure.
Reinsurers at the forefront of climate action
AM Best’s ESG survey found widespread recognition among European and Asia-Pacific re/insurers that the insurance industry has a pivotal role to play in the ESG arena. Proper understanding and integration of ESG factors are increasingly crucial to the industry’s long-term viability, survey respondents agreed.
Improving resilience and ensuring the sustainability of business models are common themes behind re/insurers’ ambition to integrate ESG factors into their operations.
But as investors are taking a growing interest in the ESG credentials of their investees, it also becomes a way for companies to ensure they maintain strong financial flexibility by remaining an attractive investment proposition.
The growing integration of ESG considerations by re/ insurers can also be a catalyst to reduce the protection gap, a long-standing item on the industry’s agenda, by working on adequate protection solutions for more vulnerable populations.
Reinsurers typically bear the brunt of the insured losses following severe natural catastrophe events. This position in the underwriting chain has put them in the vanguard of the insurance industry’s effort to monitor and understand changing environmental exposures.
While concerns about so-called greenwashing—the practice of a firm giving the impression that it is doing more for the environment than it actually is—can make observers sceptical about businesses’ motivations for publicising their ESG credentials, the reinsurance sector has a robust history of objective “green” activity.
Institutional investment attitudes are turning greener
Until now, investors had found it difficult to get a clear view of which companies will endure, struggle or even flourish as the environment changes, regulation evolves, new technologies emerge, and customer behaviours shift. Without reliable ESG information, financial markets will find it challenging to price related risks and opportunities accurately.
Over recent years, partly as a result of regulatory requirements, ESG disclosures have emerged, and institutional investors, including several that hold meaningful stakes in large re/insurance companies, are becoming increasingly bold in asserting the link between sustainability risk—particularly climate risk—and investment risk. Many are demanding greater engagement and transparency from the companies in which they invest.
Attention is focusing not just on businesses and corporations with poor ESG credentials, and those perceived as polluters, but is shifting increasingly across the value chain to companies financing such corporations, and firms underwriting that financing.
BlackRock, which has been explicit in its desire to push more aggressively on climate risk, is the single largest shareholder in both of the top two global reinsurers, which between them account for more than a quarter of total global life and non-life reinsurance premiums written. It also holds meaningful stakes in at least eight of the top 15 reinsurers, so could be a powerful voice in influencing the future direction of reinsurance companies’ sustainability strategies, particularly if it works in conjunction with other shareholders that share similar views.
A BlackRock Investment Stewardship update, published in February 2021, reiterated BlackRock’s expectation that companies in which it invests have clear policies and action plans, and report under the Financial Stability Board’s Task Force for Climate-Related Financial Disclosure and the Sustainability Accounting Standards Board frameworks to manage climate risk and to realise opportunities presented by the global energy transition.
In particular, BlackRock confirmed it was looking for companies to address near-term climate risks and opportunities adequately, while simultaneously making the necessary internal process, policy, and capital allocation adjustments to allow for long-term financial viability in a low-carbon economy. Innovation has an important role to play in companies achieving that balance, BlackRock said.
Vanguard, the world’s largest provider of mutual funds, is also becoming more explicit in the ESG disclosures and action it is demanding from the companies in which it invests.
Vanguard is the single largest shareholder in Everest Re and holds meaningful stakes in Berkshire Hathaway as well as top 15-ranked reinsurers Renaissance Re, Axis Capital and Arch Capital.
In Vanguard’s Investment Stewardship 2020 Annual Report, head of investment stewardship John Galloway noted: “Climate change presents a profound risk to companies and their long-term investors.
Vanguard cares deeply about the impact of climate risk, and we expect company boards to be aware of their role in the changing climate.
“Every company, whether it is a carbon producer or a carbon consumer, factors into the climate equation. At companies for which climate risk is material, we expect boards to oversee that risk, demonstrate competency on climate issues, provide effective disclosure, and take appropriate steps to mitigate the risks for their business.”
Norway’s sovereign wealth fund’s warnings
Another major investor taking a more aggressive stance on ESG matters is the Norwegian state.
Through its sovereign wealth fund administered by Norges Bank Investment Management, it owns not insignificant stakes in nearly all listed re/insurance companies. In a report published in February 2021, the fund highlighted insurance as one of the industries with “generally weaker” reporting on ESG disclosures.
The Norges Bank report revealed the fund’s climate conversations with invested companies have expanded beyond just polluting activities and now encompass firms financing high carbon emitters.
While re/insurers are typically not involved directly in this kind of lending or financing, AM Best recognises that, as underwriters, they may provide cover for the financing and/or the projects themselves. Those activities may fall under the scrutiny of investors’ ESG analysis.
Meanwhile, companies seen to be backing so-called dirty projects may find themselves exposed to greater reputational risk in the eyes of broader stakeholders.
That in turn may impact the sustainability of their business models, with repercussions for their ability to generate new business and retain customers, which are elements that AM Best considers in its credit ratings.
Investors adhering to responsible principles
BlackRock’s holdings in Swiss Re and Munich Re (and Vanguard’s ownership of Everest Re) may make them the largest individual shareholders in those companies, but the stakes themselves remain relatively small.
BlackRock, Vanguard and Norges Bank are, however, far from the only institutional investors placing increased importance on ESG reporting and momentum is building for mutual funds, notably as a result of pressure from their own clients, to demand more and use their influence to maximise the overall long-term value of their investees—commonly called stewardship.
Mutual fund giants Fidelity, State Street and Capital Group all have meaningful stakes in at least four top-15 reinsurers. All five investment firms, as well as most of the investment companies with smaller stakes, are signatories of the UN-supported Principles for Responsible Investment (PRI), under which they commit to be active owners and incorporate ESG issues into their ownership policies and practices.
As significant institutional investors in their own right, a number of insurers and reinsurers including Swiss Re, Munich Re, Hannover Re, SCOR, Everest Re, AXA, MS & AD Holdings and Mapfre are also PRI signatories, creating a virtuous circle driving greater engagement globally.
ESG: the Bermuda angle
Bermuda-based commercial re/insurers contend with significant exposure to natural catastrophe events, with a total gross loss exposure on major catastrophe perils of almost $200 billion for the year 2019, according to the market’s chief regulator.
The growing challenges posed by climate risks and the opportunities associated with closing the protection gap have in part prompted the Bermuda Monetary Authority (BMA) to increase its focus on ESG initiatives, in support of industry’s pursuit of such opportunities and efforts to mitigate climate risks.
This resulted in the regulator introducing in April 2021 a regulatory and supervisory team to oversee innovative business model proposals that respond to these issues.
The BMA also conducted a climate change survey the results of which, released earlier this year, indicate that climate change is a high priority for a broad range of Bermudian re/insurers, with property/casualty writers being more advanced at considering climate-related risks in their risk management.
Challenges identified by Bermuda re/insurers in the survey include: a potential increase in regulatory compliance burdens; investor-related litigation and liability risks from disclosures; and the challenges of predicting over the long term the pace and magnitude of the legal, technological, policy and market actions, among others, required when shifting towards low-carbon economies.
According to the survey, less than 42 percent of property/casualty re/insurers either plan to change, or have already changed, their business strategy in response to climate change, which indicates that a lot of work remains to be done.
Admittedly, a large majority of the property/casualty respondents (close to 82 percent) indicated that their risk management frameworks incorporate climate change risk. With more than 80 percent of Bermuda re/insurers mentioning they expect underwriting business to be impacted by transition and physical climate risks, ESG factors appear increasingly difficult to ignore for the industry.
Impact on the entire value chain
In contrast to their reinsurance cousins, large European and Asia-Pacific primary insurers responding to AM Best’s survey generally felt less pressure from investors to take ESG-focused action.
Two large European insurers said they felt “significant pressure” from investors to take ESG action, while one Lloyd’s and international player reported feeling “high pressure”.
However, other primary carriers said they felt only “some pressure” and yet others reported “moderate pressure” from investors to embrace ESG.
Regulators were typically the main source of pressure to consider ESG risks and opportunities for European and Asia-Pacific insurers, according to AM Best’s survey.
Overall, the consideration of ESG factors has grown across the insurance value chain, as companies adapt to the changing risk landscape. Changes in reinsurers’ attitude and behaviour, driven by increased ESG integration, could be a source of additional pressure for some insurers, particularly the laggards.
If some reinsurers are pulling away from certain industries, such as coal, insurers may have more difficulty finding capacity to allow them to provide cover. This could lead to some insurers facing higher reinsurance costs and potentially being forced to work with lower-rated reinsurers. Alternatively, it may force them to adapt their own business models.
This article is an excerpt from an AM Best special report “Investor Pressure Adds Momentum for Reinsurers to Integrate ESG Factors”, published May 5, 2021.
Jessica Botelho-Young is an associate director at AM Best. She can be contacted at: jessica.botelho-young@ambest.com. Ghislain Le Cam is a director at AM Best. He can be contacted at: ghislain.lecam@ambest.com
