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ESG: A burning issue for the insurance industry

A combination of regulatory and legislative pressure, soft power and enlightened self-interest has prompted insurers to invest more time and money in ESG

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The recent controversy over the Deliveroo IPO has helped keep environmental, social and governance (ESG) issues in the headlines and is a reminder of the difficulties facing all those managing assets – including insurers.

Insurance companies face extra pressures in addressing ESG issues, just as they face different challenges in the wider issues of investment.

As the newly rebranded Abrdn says on its website: “Insurers have unique investment needs. On the one hand they need to generate sufficient returns on their assets to meet long-term commitments to policyholders. On the other, taking investment risk needs to be balanced against regulatory requirements and the potential for balance sheet volatility.”

Abrdn was formed by the merger of insurer Standard Life and Aberdeen Asset Management, but (after much corporate activity) is now primarily an asset manager.

With humans at the helm, philosophies will indeed differ and at its most extreme, this could be described as an existential issue. Going back 30 or 40 years, there were far more mutual insurers in the UK. It could be argued that this might have fostered a different outlook, with mutual insurers less concerned with making profit and more willing to create a better society for members, as well as serving their insurance needs.

But sceptics might say that, whatever the ownership structure, the stakeholders involved in any insurance entity – policyholders, investors, employees, shareholders, directors – are more concerned with their own financial wellbeing than anything else. And they may argue further argue that any concern about ESG issues only materialises when it offers financial reward for the stakeholders.

Whatever the truth, there is plenty for insurers to consider when it comes to their own self-interest, with the insurance industry set to foot the bills for a range of environmental issues in years to come.

Wildfires in California and other parts of the world have resulted in insurers making huge payouts in recent years. And, increasingly, research indicates a clear link between climate change and the growth in the number of wildfires.

For catastrophic events, reinsurers perhaps have the biggest incentive of all to address climate change issues, as they can be faced with the bills that were too big for the insurers to swallow.

As Andrew Douglas, director, institutional business at AXA Investment Managers, notes: “Reinsurers are almost uniquely exposed to events as a result of climate change.”

Active measures

With so much at stake, insurers’ activities in ESG go well beyond collecting premiums and investing the money in an “acceptable” way. AXA is one of a number of insurers hoping to contain the effects of global warning, by working directly with customers on environmental risk.

It provides coverage for companies’ liabilities and provides parametric solutions for the physical impacts of climate change, meaning risks that were previously uninsurable become insurable.

The company says that biodiversity will be increasingly built into its approach to responsible investment. AXA says this will be achieved via the companies the group invests in and also the launch of a €200mn impact fund for climate and biodiversity aimed at projects that protect natural habitats and deliver economic and social benefits to local communities.

While the “E” part of ESG may attract more attention, insurers are also taking an active stance on social and governance issues.

Aviva Investors hit the headlines when it refused to buy shares in Deliveroo, which floated on the stock exchange in March. Aviva took this decision, in part, because of the way Deliveroo treats its workforce, saying they are contractors, rather than employees.

Aviva’s chief investment officer David Cumming told BBC Radio 4’s Today programme: “A lot of employers could make a massive difference to workers’ lives if they guaranteed working hours or a living wage, and how companies behave is becoming more important.”

Deliveroo shares fell heavily in their first day of trading, although analysts attributed some of the decline to an over-optimistic valuation. Either way, the publicity generated by the actions of fund managers from the insurance sector, and elsewhere, showed they have some soft power in the market when they choose to take a stance on such issues.

ESG evolves

Concern about ESG issues is not new, though the vocabulary has changed. Funds labelled “ethical” were being launched well before the turn of the century. The momentum has gathered pace in recent years and insurers, alongside other organisations, are having to run faster to stay still. No one wants to be the laggard when it comes ESG issues.

Swiss Re, for example, boasts on the asset management section of its group website that: “In 2017 we reached a key milestone on our journey: as one of the first (re)insurance companies, we integrated ESG benchmarks into our investment portfolio. This was a significant step forward from considering ESG as an ‘add-on’ approach only.”

For a long time, the ‘add-on’ was a common strategy among insurers. Now the pressure is growing on them to up their game and announce specific commitments.

Swiss Re points out that, as a founding member of the UN-convened Net-Zero Asset Owner Alliance launched in 2019, it has committed to transitioning its investment portfolio to net-zero greenhouse gas emissions by 2050. It has also set intermediate targets for every five-year period until then.

But it’s not all about soft power and the desire to align with the reputational boost enjoyed by peers who are ahead in the ESG stakes. Legislation is also playing its part. From the end of 2021, UK insurers will be required by the Prudential Regulatory Authority to embed an approach to managing climate-related financial risks. Indeed, several large insurers have started to implement climate strategies.

Passive products

Across the aisle, in the general insurance market, several large competitors are also playing the ESG angle through the investment products they offer – often at rock bottom prices by tracking indexes cheaply.

The asset management arm of insurer Legal & General, L&G Investment Management, is a major player in products that offers passive exposure to ESG themes, and which is adopting an increasingly innovative approach as a consequence.

In 2019, it launched the Legal & General Future World ESG Developed Index Fund, which tracks the Solactive L&G Enhanced ESG Developed Index. The latter covers a wide variety of ESG-related topics, which it says has the ability to “apply different selection methodologies and also focus on specific themes, like low carbon and gender equality”.

Although this is a passive product, L&G is bearing the cost of both maintaining the index and ensuring it includes suitable companies.

Interacting directly with the general public helps insurers drive an ESG agenda that they not only need to be aware of but are increasingly joining in with.

AXA’s Douglas says it is “important to be active in these decisions”.

“We meet with hundreds of companies. We select the best-in-class,” he adds.

An active stance and dialogue with stakeholders can help ensure companies are actually doing what they say they are doing on ESG and not just ticking boxes. This is an approach the firms in the (re)insurance sector will increasingly need to adopt in the very near future.

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