ESG — also known as sustainability — is made up of environmental, social and governance factors. It began emerging in the 1990s, with international events and frameworks such as the Kyoto Protocol and more recently the Paris Agreement and UN Sustainable Development Goals. These helped reveal the extreme necessity and urgency for all sectors to find appropriate solutions to unprecedented global challenges.
We are currently witnessing a growing appetite of financial actors to understand the relationship between ESG factors and entities’ improved performance. The insurance industry is no exception, being highly affected by environmental changes. As the largest institutional investor group in Europe — and operating within long investment horizons — insurance companies play a major role in financing the move to a low-carbon economy. And as risk managers, insurers also play a central role in identifying and measuring material climate risks.
Consequently, to remain competitive, insurers need to adapt and innovate while factoring the above-mentioned risks into their strategic decision-making process.
Generally, one of the challenges that all actors come across when implementing ESG-related strategies is the lack of standards and definitions. Therefore, comprehensive work has taken place to provide various industries with a clear framework.
Back in 2012, the UN Environment’s Finance Initiative developed a framework for the insurance industry, supported by the UN Secretary-General and various industry CEOs: the principles for sustainable insurance (PSI) [1]. These principles were dedicated to help insurance actors manage sustainability risks while seizing opportunities, and to move towards a more climate-resilient economy.
The four principles are as follows:
Lately, credit rating agencies like Moody’s are including ESG factors into their ratings to better evaluate companies’ risk of default. As a result, they have identified high exposure and extensive vulnerabilities in the insurance sector and are urging insurers to consider a large range of ESG issues to meet their financial objectives. Furthermore, given insurers’ broad asset range of portfolios, there is a high chance that their value would dramatically decrease due to climate change. Yet, insurers oversee around 25% of worldwide assets.
In February 2019, the PSI and Allianz launched the first guide to managing sustainability risks in insurance underwriting [2] . The guide’s overall goal is to aid the ESG due diligence process for clients and transactions. It also provides guidance on developing approaches that integrate ESG risk considerations into the core business and related decision-making process.
In the background, stakeholders may be willing to understand the key aspects of ESG issues so they can assess the relevance of selected approaches. Applicable international standards and best practice frameworks will help insurance industry actors identify the elements required to build their ESG strategy. What’s more, the guide will add a rising awareness to not only ESG risks but also ESG opportunities, which could benefit the industry’s business models.
The guide addresses these challenges by exposing the following elements to insurance market players:
However, while solutions are being developed to help the insurance industry make efficient ESG decisions, smaller insurance actors remain at a disadvantage. This is because they do not have the means to understand the latest updates affecting the industry and apply new frameworks and standards.
Regarding regulation, the insurance industry must keep a close eye on the EU’s action plan on financing a sustainable growth of March 2018 and its related legislative package. It includes two pieces of regulation that will have an impact on the sector:
As a result, insurance actors who anticipate and get ready for these future regulations — while factoring in investors’ increasing demand for sustainable products — will be best positioned to gain a competitive market edge.
[1] PSI – Principles for Sustainable Insurance, UNEP FI Initiative
[2] Underwriting environmental, social and governance risks in non-life insurance business, UNEP Finance Initiative and PSI – Principles for Sustainable Insurance, February 2019
Julien Ganter
Sustainable finance expert
+352 22 51 51 7248
julien.ganter@kpmg.lu