Climate Summit
Money matters: the net zero need for innovative financing
Transition risk presents the re/insurance industry with challenges that require specialty financing products.
Panellists in the discussion titled “Innovative Financing Solutions” at Bermuda’s inaugural Climate Summit highlighted some of the unique challenges of the re/insurance industry with respect to transition risk, and then focused on how the development of specialty financing products within the sector, such as parametric benchmarks, seeks to capture and track climate change risks throughout the lifecycle of financing.
The panel was moderated by Peter Giacone, senior managing director of Kroll Bond Rating Agency.
The panellists were Vishaal Bhuyan, co-founder and chief executive officer of Aanika Biosciences; Richard Dudley, global head of climate strategy at Aon; Julia Henderson, president and head of portfolio management at Stable; Andrew MacFarlane, head of climate at AXA XL; Ariane West, co-founder, chief operating officer and head of structured finance at Re2 Capital; and Darren Wolfberg, chief executive officer of Blockchain Triangle.
Dudley stressed the value of the industry’s expertise in risk transfer, which makes it an “enabler” of the clean energy transition.
“It’s very easy to talk about risk transfer as just a downside protection tool, but our industry is actually enabling investment, that’s driving economic activity. An example in the climate context is that there isn’t an offshore wind farm that I’m aware of anywhere in the world that has ever been constructed without being insured first. So think of us in that way, as an enabler of the transition, an integrated element of risk financing,” Dudley told delegates.
Re/insurers should remember that their role in climate change is not limited to natural hazards, he stressed, adding that the business case for some clean energy technologies has yet to reach the point where it is “scalable and seeing rapid enough investment”.
“The business case at scale may be there for wind and solar but it’s not there necessarily for some electric vehicles, carbon capture and storage, and some elements of the hydrogen market as well, so there’s a big role for us to play in that.
“We already have products in our market that put a floor on tech performance, which means you can lower the cost of capital, which means you can increase the level of investment into these tech areas.
“There’s a whole raft of stuff like that, which is not natural hazard-related, but through which our industry can help to stimulate economic activity, which in turn would speed up the world economy transition to net zero,” he said.
The industry should “think consistently” about how to price risk with a forward looking lens.
“Very often we’re looking in the rear-view mirror and taking a lot of information on say natural hazards or fire or D&O risk to use past performance to try to predict the future. You can’t do that with the clean energy transition because we just don’t have enough historical data,” he said.
“Instead, we need to take a risk engineering approach using forward-looking, expert analysis. If you’re investing in say a new carbon capture and storage technology, the regulatory frameworks expect you to accept very long-term risks for potential leakage from storage. That profile is quite long and our general annual renewal cycle doesn’t cut it as far as the investors are concerned. So we need to think about how to match those two things together more appropriately.”
The other aspect to consider, he added, is the sheer scale of renewable energy projects. An example of this is a major green hydrogen development in Western Australia. This project needs a dedicated power production facility—made up of 50 gigawatts of hybrid wind and solar power.
“What is 50 gigawatts? Well, the total peak power requirement in the UK in 2019 on any one day was 60 gigawatts. So, if we offered a few billion dollars in coverage for this project, the project developers would say: ‘Sorry, but that isn’t going to move the needle for us’.”
Dudley highlighted the Just Energy Transition Partnership, launched at COP26 by the EU, UK, France, Germany, and US to help South Africa finance a quicker transition from coal. This aims to mobilise an initial public sector commitment of $8.5 billion for the first phase of financing, through various mechanisms including grants, concessional loans and investments and risk sharing instruments. A key goal is to mobilise multiples of this amount from private sector investment.
“The challenge makes clear the potential societal impacts of the clean energy transition, and we need to break the problem down into chunks to help them with that. In fact, the re/insurance industry should be right in the middle of that conversation, at the point where they’re making those financial decisions and not afterwards,” he concluded.
“We need to take a risk engineering approach using forward-looking, expert analysis.”
Richard Dudley, Aon
Early mover
MacFarlane agreed on the early mover advantage.
“With new risks and new technologies, there is an inherent fear of the unknown and of the forward-looking approach,” he said. “But if you get in early on the investment side, that can help develop your understanding of the given risk, so that you get a degree of comfort which makes being able to take on that risk more palatable.
“Your cautious view starts more when you scale up, but if you get in earlier, from both sides of the balance sheet, then that helps with providing that scale, too.”
Speaking later to Bermuda:Re+ILS, MacFarlane explained the supply chain risks associated with the materials used in renewable energy projects, such as cobalt.
“A renewable energy plant includes the construction and operation of that plant. There will be various parts of that process that will require insurance from the products being used in the construction and operation of the plant, performance guarantee insurance around the technology, and typical P&C insurance coverage around the construction and operation of this infrastructure,” he said.
“The materials that go into the products that are being built to facilitate these plants are also covered through typical P&C insurance products. Some of the material required for these processes, such as lithium, cobalt and nickel, are vital minerals and their availability and increase in cost in recent months does threaten the ability to keep renewable energy prices competitive relative to existing methods.
“Interruptions to the supply chain of these critical minerals could be influenced by a number of factors and the extent to which re/insurers have appetite for these factors could influence the potential coverage that could be available to help reduce volatility across that supply chain.”
“We’ve created a tag that can be applied at the source of a product and then traced down through the supply chain.”
Vishaal Bhuyan, Aanika Biosciences
Microscopic perils
Bhuyan talked about another risk associated with climate change: pathogens. Using customised microbial-based “tags”, his company helps companies gain valuable insights about their supply chains, meaning they can then help their customers make more sustainable choices.
“Climate change and climate goals could lead to a significant increase in food and water contamination, with pathogens cropping up in areas that are not prepared for them,” he told delegates.
“With our technology you can not only trace contaminated food back to its origin a lot faster than you can now, but potentially mitigate the risk of an outbreak or contamination from the beginning.”
Data that re/insurers gather may show that producers of coffee beans, cacao and palm oil, for example, are sourcing ingredients that are outside ESG standards, he said.
“How do we ensure that’s sustainable, and not contamination or adulteration? We accomplish all these things by the use of engineered microorganisms. In other words, we harness bacteria. We’ve created a tag that can be applied at the source of a product and then traced down through the supply chain.”
This “tag” refers to how Aanika Biosciences “digitises” nature, using naturally occurring microbes to create digitally-encoded “DNA watermarks” that can track, trace and authenticate food and ingredients across the entire supply chain.
West said her company was dedicated to developing and underwriting climate risk products. These include, first, climate resilience, to address climate-linked volatility events, and second, the energy transition. The latter is a “broad pillar”, she said, that is designed to address risk management for renewable energy projects, as well as support the development of “environmental markets”, including carbon trading.
“Our team has a long history of analysing and developing products for the weather and climate markets,” she said.
“The question is: what are the drivers of the need for risk management projects? We tend to approach this by asking what are the problems that we can help create solutions to. There could be market incentives to transact and engage around risk management products, such as by supporting green infrastructure financing.
“One of the things we like about investing in renewables is the stability of the revenues provided by offtake agreements.”
Globally, investment in renewable energy reached about $2 trillion last year, but this will need to double each year between 2026 and 2030 to meet the needs of the clean energy transition, she said.
“That’s a lot of renewable energy, which means a lot of financing, and the stability provided by offtake solutions can be a key component in driving access to capital. That’s something to which our industry has potentially a lot to contribute.
“There’s a lot to be said of the impact you can have by directing investments at things that support access to that capital, such as data, analytics, services and risk management.
“On the investment side of the re/insurance balance sheet, an investor in renewables is not distinct from any other type of investor in terms of starting to incorporate ESG criteria. But on the risk and the underwriting side, that’s absolutely where we have a way to go.
“It’s about focusing on the point of capital and what it takes to bring that to the table and make these investments. For example, if you build a renewable energy plant, who is going to buy the power? What will the price be? How does that look in terms of the revenue streams coming from that asset 20 years into the future?” West asked.
“With blockchain, we tokenise the portfolio and convert all the data that’s in a portfolio into market data.”
Darren Wolfberg, Blockchain Triangle
Climate compliance
Wolfberg described how Blockchain Triangle has built a technology platform that combines big data and connects that to blockchain—for the creation of digital securities and for climate compliance.
He set the stage for the clean energy transition and market signals.
“The sustainable bond market has grown from $50 billion of issuance in 2018 to north of $1 trillion last year because the incentive to comply has risen from 5 basis points to 23 to 28 basis points last year, and is now looking higher again as rates move up.
“BlackRock and the other top 200 asset managers in the world have mandated at the board level to have a minimum of 75 percent of their invested assets in sustainable assets by 2030,” Wolfberg said.
“So you have this rising tide lifting all ships in ESG, and the tide going down on brown assets, and that creates an ecosystem of further reinvestment into sustainable assets. The other data point is that the CFA Institute estimates that by 2025 $50 trillion will be invested in sustainable assets.”
There are two problems that need to be solved when thinking about climate compliance, Wolfberg said.
“The first is aggregating all the billing and smart data and IoT sensor information in a portfolio that your client can aggregate and report on. The second piece of the problem is: ‘How do I get that information into all the stakeholders efficiently: into the insurance company’s books, into the bank’s loan books, into the asset manager portfolios, and into the credit rating agencies?’.
“Each of those stakeholders has thousands of assets they are either managing or they provide loans to, and the question is: ‘How do I get the data from this one company into what should be a list of thousands of assets that I need to have real-time analysis on, to know that, in the same way I know a P&L for my book, I know the climate exposure across clients or investments?’.
“With blockchain, we tokenise the portfolio and convert all the data that’s in a portfolio into market data. So the same way you type in a stock symbol and get the high or low, volume traded or last price of the day, by using blockchain and tokenising the portfolio, for all the climate attributes, we can deliver that data in the same format with access to verifiable data.
“For the thousands of assets in BlackRock’s portfolios, they can run real-time analysis on their climate compliance exposures,” he explained.
The re/insurance industry is seeing now that it “can’t afford to do nothing” on climate risk, as regulatory requirements are forcing adoption and market-based incentives were key, he said.
“You need the right incentives in place for the people who collect and provide the data for climate compliance and the sustainable bond market is providing that. Those who want to see the data, measure it and analyse it, can. For example, if a farm is able to provide its fertiliser usage data, then the asset manager at the end of the food chain of capital is able to evaluate whether the discount they are providing to the farm is worth it.
“It’s about understanding who are the players in the ecosystem, who are the beneficiaries, what incentives they need, and the sustainably linked bond market is that market mechanism where you’re seeing this massive flow of capital in the form of debt,” he said.
Steady Eddie
Henderson highlighted agriculture because Stable’s chief executive, Rich Counsell, had experienced first-hand the impact of volatile prices growing up on the family farm. While working in Chicago in 2015, there was a crash in dairy prices that devastated incomes for thousands of businesses, and Counsell realised that hedging price risk was a complex, risky and intimidating experience for businesses more interested in safety, than speculation.
Stable helps agri-food businesses manage the risk of volatile prices, with its commodity risk management platform that now hosts hundreds of third-party indexes.
Henderson described “responsibly sourced indices” and praised the re/insurance industry’s “Steady Eddie” approach.
Stable’s technology delivers price risk management solutions and liquidity into commodities where no futures markets exist, she explained.
The company focuses on approximately 90 percent of commodities around the world that can’t be hedged currently on a futures market, which amounts to $5 trillion in risk.
Stable says it has “democratised” hedging for businesses of every size and sector to create the financial stability they need to invest in the future with confidence.
Henderson said: “Of the $8 trillion food economy around the world, about $5 trillion is untradeable or unhedgeable, meaning you can’t go to an exchange and buy a future or a swap. That’s why you set forward prices.
“If you’re a quick service restaurant such as McDonald’s and set forward prices for your suppliers, you can only go out three to six months. We tried to work out how to provide solutions to these food manufacturers and food producers where we can provide risk management programmes for a price rise or decrease into the future, and provide profit for our risk carriers.”
She added: “Something the insurance industry does well is the Steady Eddie approach. If we have losses, it doesn’t necessarily mean that we react immediately—many times our industry expects these losses; insurance carriers are experts in understanding risk and paying claims. Liabilities are where we excel and prove our worth to the financial sector.”
