What are we looking for?
How well North America’s top property and casualty insurers are prepared to withstand climate-related disasters.
The screen
In its 2019 annual Financial System Review, the Bank of Canada for the first time explicitly addressed climate change, listing it as one of six major vulnerabilities in the Canadian financial system. In the report, it cites that insured damage to property and infrastructure in Canada averaged about $1.7-billion a year from 2008 to 2017, up from $200-million annually from 1983 to 1992.
The United States has experienced record-level destruction from hurricanes, cyclones and wildfires in recent years. According to risk modelling firm Air Worldwide, a hurricane as destructive as Harvey, the costliest ever for the U.S., would have been seen as a one-in-2,000-year event in the last century. By 2017, the year of Harvey, that estimated frequency had risen to one in 300 years.
The compounding effects of climate-related disasters can create a perfect storm for insurers. First, natural disasters cause drastic spikes in claims, so insurers have to liquidate assets in order to make good on these claims. Second, the combined effect of a number of insurers selling all at the same time can have a significant depressing effect on asset prices, just when insurers need them the most in order to remain solvent.
Finally, the prices of these assets – securities issued by companies and governments – are directly affected by the same natural disasters. Companies’ operations are interrupted and governments’ budgets are strained with relief spending.
We will look at the five largest North American insurance companies in the property and casualty or multiline (insurance for multiple risks bundled together) businesses and see how they compare in terms of 1) their financial strength to withstand disasters and 2) evidence of understanding the risks that climate change poses.
The first criterion is easier to quantify. We look at the forward estimate of loss ratio (that of claims paid to premiums collected); combined ratio (claims paid plus expenses to premiums collected); and catastrophic loss ratio (losses related to severe events as a percentage of premiums).
The second aspect is less straightforward. As proxies we look at: whether management has explicitly acknowledged the commercial risks associated with climate change; and whether the company reports sustainability data within the guidelines of the Global Reporting Initiative (a standards organization founded by the United Nations). We also look at whether the company has set emissions reduction targets and what the percentage change in their (voluntarily) disclosed emissions has been over the past three years. Greenhouse-gas emissions are more commonly associated with energy companies, but virtually all companies, including insurers, emit GHG – from company cars that pollute to office buildings and servers that require energy associated with GHG emissions.
More about Refinitiv
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What we found
The five largest are all U.S. firms (Canada’s three largest are classified as life and health insurance). Hartford Financial Services Group Inc. has the lowest combined ratio, suggesting, all else being equal, it should have the highest profitability and be most resilient to catastrophes, be they severe weather events resulting from climate change or otherwise.
Hartford also shows the most signs of appreciating the risks climate change poses. In its annual GRI report the company commits to at least a 2.1-per-cent reduction in greenhouse-gas emissions annually – which would lead to at least a 26-per-cent reduction by 2027 – a target it is well on its way to achieving if the reduction achieved over the past three years is any indication. These emissions data are verified by an independent third party, Montreal-based WSP Global Inc., and Hartford has also set the goal of being powered 100 per cent by renewable energy by 2030.
The second-lowest combined ratio belongs to American International Group Inc. AIG has committed to a 30-per-cent reduction in emissions by 2023. It should be noted, however, that AIG only reports on emissions from its British and New York operations, and reported emissions do not include business travel “due to the complexity of aggregating the data," according to the company.
Hugh Smith, CFA, MBA, is manager of Refinitiv’s Investment Management business for the Americas, and is a director on the board of the Responsible Investment Association of Canada.
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Hugh Smith, CFA, MBA