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An insurance toolkit for managing climate risk

Wellington Management's insurance portfolio strategist, Tim Antonelli, explains why insurers are increasingly concerned about climate risk, and how the asset manager's analytical approach can help manage this threat.

How is Wellington helping insurers assess climate risk in their investment portfolios?

Tim Antonelli

We have many client-ready environmental, social and governance (ESG) reporting frameworks that provide information on how the companies rank in those areas, and how we are engaging with them on behalf of our clients. For transition risk, we provide detailed carbon footprint reporting. On climate change risk, not only do we analyse the positions of our insurance clients' portfolios as part of the investment decision-making process, but we are also very proactive with the companies that insurers invest in, to ensure climate risk disclosure is improved over time. This also relates to being a thought partner with our insurance clients about their use of the Task Force on Climate-related Financial Disclosures (TCFD) initiative, the Climate Disclosure Project and ESG initiatives at their firms broadly. Finally, we help clients think about how they are exposed to the physical risks of climate change through our partnership with the Woods Hole Research Center.

How has insurers' awareness of climate risk changed in recent years?

Even over the last two years, the level of concern on climate risk has grown substantially. It has been a top issue in Europe for the last five-10 years and we are starting to see rising interest in these risks in Asia-Pacific and the Americas. Two major drivers have been regulators across the world asking more direct questions on the topic to insurers, and insurers seeing the manifestation of these risk projections play out right in front of them – for example, the wildfires in Australia or California.

How can insurers accurately model the physical impact of climate change when climate science is a new discipline?

Climate science has been an established discipline for decades, and warming models from the 1970s for example, have held up very well against the temperature increases since that time. What is new is the link between the scientific community, which has a very good handle on modelling these risks, and the capital markets. This is at the core of our partnership with the Woods Hole Research Center. Our collaboration has involved modelling six different climate variables – heat, drought, water access, flooding, hurricanes and wildfire, which we believe will have the largest impact on our insurance clients – and then mapping them on a global scale over the coming decades. We have integrated the projections into our portfolio management processes to provide additional tools to investors and insurance clients alike. In the second phase of our research agenda, we are doing a deeper dive on some economies with the largest, and most immediate, impacts of physical risks, including India and Brazil. As insurers continue to invest in emerging.

An insurance toolkit for managing climate risk Wellington Management's insurance portfolio strategist, Tim Antonelli, explains why insurers are increasingly concerned about climate risk, and how the asset manager's analytical approach can help manage this threat 

markets, and in many cases expand their underwriting footprint in the same markets, this type of research will be of critical importance.

What impact could climate change have on insurers' asset allocation strategies?

I expect to see a material shift in the investment strategies of insurers as climate becomes a major focus in the capital markets. In the near term, this should result in a greater weight placed on geography when sizing positions of securities, particularly those with capital-intensive business models, or longer duration assets. In addition, now that illiquid assets (e.g., mortgage loans, direct real estate, private credit) are such a significant portion of an insurer's overall asset base, using public market liquid assets as a diversifier to existing physical risk exposure will become increasingly important. One key item to note is we are in a period of information asymmetry where an insurer can make risk-reducing trades and not have to pay for them, because the climate dynamics are not yet reflected in the price. However, this window is closing. As the amount of regulation and disclosure increases, as rating agencies move to a more proactive model when assessing these risks, and as climate-related litigation continues to grow at a rapid rate, these externalities could lead to a drop in pricing for certain assets well before the full manifestation of the events themselves.

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