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MSCI: How investors can turn climate risks into reward

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As Asia Pacific insurance companies increasingly recognise the importance of assessing climate risk across all aspects of the business, MSCI believes they need a three-pronged approach: measure and manage climate risks, pursue sustainability goals, and tap potential growth opportunities presented by climate change.
MSCI: How investors can turn climate risks into reward

With the world living through what UN secretary-general António Guterres recently called a "climate collapse in real time", the devastating impact of climate change is top of the global policymaking agenda1. The tens of billions of US dollars mobilised at the COP28 conference in Dubai are testament to this urgency.

No industry is untouched. Within the insurance sector, where climate risks are an ever-growing threat, there is a sharper focus than ever before on climate-related risk management in the underwriting process.

In particular, insurers face complex challenges, explained Cody Dong, a ESG & Climate researcher at MSCI specialising in the insurance sector. These include: accounting more accurately for climate risk which has been intensifying extreme weather hazards; safeguarding long-term investments; and meeting expanding regulatory requirements. At the same time, insurers continue to pursue sustainability goals to meet climate-related stakeholder demands.

To help insurers more broadly be better prepared in the face of climate risks, Dong highlighted three key areas.

Climate risk management best practices

Firstly, insurers need to be able to effectively measure and manage climate risk, both on the underwriting side and investment side. On this front, climate scenario analysis is the industry best practice.

In Europe, for example, the insurance industry has already been mandated by the European Insurance and Occupational Pensions Authority to conduct such analysis and integrate climate risk into the firm’s Own Risk and Solvency Assessment (ORSA).

“Scenario analysis on the underwriting portfolio creates the possibility of projecting over the next few decades how much claims might increase given intensifying climate hazards and, therefore, the affordability of policies for households,” said Dong. “The aim of this exercise is to inform better underwriting risk management, insurance product pricing and long-term business strategies to weather the impacts of climate change,” he added.

Meanwhile, insurers must also factor in the impact of climate risk on the valuations of relevant assets within their investment portfolios.

MSCI’s approach is to help them evaluate the financial impact of climate physical risk, transition risk and clean-tech technology opportunities with Climate Value-at-Risk (CVaR), a tool for stress testing and scenario analysis.

“This analysis is typically more advanced for listed equities and bonds given the market has more visibility to their underlying climate exposure,” added Dong.

Private assets, meanwhile, have generally been a bit trickier to analyse. To address this hurdle, MSCI completed its acquisition of The Burgiss Group, a private asset data firm, in October 2023. “This will bring investors greater transparency in global private asset investing via access to data, analytics and technology solutions,” explained Dong.

Sustainability goals

Another important aspect of climate change for insurers is to continue their journey to achieve sustainability goals.

With this in mind, MSCI looks to help insurers establish a sustainability baseline, set goals and develop a sustainability action plan via its climate metrics. Insurers can then benchmark and track progress against the wider market.

For example, MSCI’s Total Portfolio Footprinting tool allows insurers to estimate and report their financed emissions on almost all asset classes, listed or unlisted. This tool could also be extended to measure insurance-associated emissions.

“On the underwriting side, insurers could start to look at how much of their premiums are towards sustainable themes,” said Dong. “And the same goes for investments where assets under management that are aligned with local green taxonomies is a common metric to demonstrate sustainable impact.”

Other emerging sustainability trends in the insurance industry include biodiversity and cybersecurity, he added.

Turning climate risks into an advantage

Climate change is destabilising the insurance industry. However, insurers in Asia Pacific should also look to capitalise on the growth opportunities that climate-related issues potentially present.

“Rather than pulling back from high-risk regions, some insurance companies with a higher risk appetite may also want to grow their businesses in under-penetrated markets, especially where there is government support,” said Dong.

Narrowing the protection gap is a case in point. Natural disasters cost US$313 billion in economic losses globally in 2022, according to Aon’s 2023 Weather, Climate and Catastrophe Insight2. And although 2022’s global protection gap – i.e., losses not covered by insurance – of 58% was one of the lowest levels on record, the Asia Pacific region still significantly lagged the rest of world with 86% of losses lacking insurance coverage, said the Aon report.

“Closing this protection gap could represent growth opportunities for insurance companies in Asia Pacific,” Dong added.

One approach might be to develop innovative products that incentivise policyholders to increase their resilience to climate risk. For example, discounts can be given to customers who upgrade their roof or flooring to materials which better withstand water damage.

Such product management strategies can help insurers manage their climate physical risk exposure in their underwriting, while promote climate adaptation among their customers.

To find out more about MSCI's climate solutions for insurers, visit the webpage here

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