The downside of the race to carbon neutrality
The insurance industry has been warned of the social risks of blindly withdrawing insurance cover, and divesting, from so called “dirty industries”.
The warning comes as increasing eco-activism centres media attention on a global insurance industry seeking harmony with climate risk goals.
The rating agency KBRA points out that while divestment from fossil fuel interests, for example, may protect companies from reputational risk and from the potential for stranded assets, it does not address how communities will finance the transition to a low carbon future.
The report (Balancing ESG priorities never more challenging for insurers) states that while much of the industry has taken concrete steps to address climate change on the asset side of the balance sheet, incorporating sustainability into underwriting is a complex endeavour that will require time and a differentiated approach to address.
KBRA said: “Dirty industries as well as low-carbon transition technologies and alternative energy sources need massive amounts of funding for the world to achieve net zero emissions.”
Insurers may have modified their asset management, or repositioned investment strategies in the face of climate realities, but on the liability side, they must consider product line and customer considerations.
And that will necessitate insurers taking a more nuanced risk-based approach to reflect the interplay between different stakeholders and desired outcomes.
The agency said any dramatic changes in underwriting in response to climate change will inevitably have ripple effects across different classes of stakeholders.
“While much has been done to support achieving the goals of the Paris Agreement on the asset side of insurers’ balance sheets,” the KBRA report states, “similar progress on the liability side has been more elusive.”
The agency said that cancelling an insured’s policy still may leave the insurer’s balance sheet exposed to historical liabilities related to any outstanding and incurred but not reported claims.
The report continues: “The ongoing handling of these legacy liabilities can create a measurable drag on future performance. This potential drag has resulted in many insurers taking a more nuanced approach to transitioning their underwriting away from certain classes of business.
“Some insurance entities have established lead times to exit from specific risks, which has led to criticism from some climate change stakeholders that such timetables must be shortened.
“Other insurers have established escalation processes for exceptions to the more general guidelines that prohibit the writing of certain types of risk.
“Another consideration is that after non-renewal or cancellation, insurers forgo the ability to influence, and perhaps hasten, the policyholder’s transition to net zero, leading some insurers to prudently assess insureds in their portfolios that have set, and are working toward, attainable climate goals.
“For those policyholders, insurance coverage continues to be available as long as measurable progress is achieved, although increased pricing, coverage restrictions, and sub limits may apply.
“Taken one step further, insurers have an opportunity to build market share by structuring policies that incentivise sustainable behaviours across their customer base.”
Finally, the report said apart from the potential negative financial impacts on insurers, wholesale and immediate abandonment of classes of business could have other negative social implications by stranding segments of the population with no access to alternative means of risk transfer.
Insurers, KBRA warned, need to carefully balance the need to transition their businesses to net zero, while remaining mindful of their pivotal role to support sustainable economic and social development for communities across the globe.