ESG: A Global Issue for the Insurance Industry

United Kingdom

In common with many other markets, environmental and climate-related risks remain the primary ESG focus for the UK’s financial services regulators, the Prudential Regulation Authority (PRA), and the Financial Conduct Authority (FCA).

From a prudential perspective, UK firms are required to have embedded the approaches to managing climate-related financial risk set out in the PRA’s Supervisory Statement 3/19 by the end of 2021, including implementing appropriate governance up to board level to ensure climate-related risks are monitored and managed and using climate-related scenario analysis. PRA feedback during 2020 suggested that many firms would need to increase their capabilities materially in these areas, and the outcomes from the 2021 Biennial Exploratory Scenario – which will launch in June 2021 and includes stress testing of the resilience of the largest UK banks and insurers to different climate pathways – will therefore be a key indicator of progress in this area when results are published in early 2022.

Climate-related disclosure also remains a key focus. At a corporate level, premium-listed UK issuers are now subject to a “comply or explain” requirement to make climate-related disclosures in their annual report. Initiatives by both the FCA (due to publish a Consultation Paper on requiring asset managers and life insurers to provide “Task force on Climate Change-related Financial Disclosure” (TCFD) in June 2021) and the Department for Business, Energy & Industrial Strategy (BEIS) (who closed a consultation on extending climate-related disclosures to all publicly-listed companies and large private companies in May 2021) are likely to result in this obligation being extended much more broadly across the sector. At the same time, from a product perspective, the quality of disclosures in relation to ESG/sustainable fund products is also an increasing focus for the FCA and an area that will directly impact life insurers. The FCA is expected to publish an update on the development of its “guiding principles” for the design, delivery and disclosure of such products by the end of Q3 2021.

However, even if environmental issues continue to receive primary attention, other ESG issues are also starting to get more focus. This is particularly true of diversity in the sector, which both the PRA and FCA see as important to improving decision-making, which in turn supports better consumer outcomes and security in the sector. A joint Discussion Paper on Diversity and Inclusion is expected to be released in June 2021, with a data request to key firms later in the year and a consultation paper in early 2022.

 Continental Europe

In the European insurance industry, among the ESG criteria, “environmental” is most distinctive and is applied in several areas, the most prominent being (i) investments/ asset management, (ii) underwriting and (iii) own operations.

In a position paper adopted in February 2021, the Board of the German Insurance Association (GDV) committed to invest their clients’ money (EUR1,700 billion) in a climate-neutral way by 2050 at the latest. Many German and other European insurers have set more ambitious goals for themselves, e.g. Allianz with an undertaking to reduce the level of greenhouse gas emissions in its investments in public equity and listed corporate bonds by 25% by 2025 compared to 2019. Also, many insurers invest in infrastructure and renewables assets and operate with negative lists containing investments that do not meet certain criteria and are therefore blocked for investment. Furthermore, many insurers have set up investment plans to support a sustainable recovery in Europe post-COVID, for example Generali with their EUR3.5 billion investment plan “Fenice 190” and AXA’s EUR2 billion allocation to the Prêts Participatifs Relance to strengthen SME capital in France.

Insurers are increasingly incorporating ESG criteria in their underwriting guidelines and are excluding certain industries, e.g. controversial weapons or coal-based businesses and other carbon-intensive industries, or focussing on sustainable industries such as renewable energy. Many organizations have set themselves goals in respect of their own operations. Talanx for example has committed to achieve group-wide climate neutrality worldwide by 2030 at the latest.

Finally, insurance regulators are focusing on the issue. German BaFin, for instance, made Sustainable Finance one of its focal themes in 2020, and the topic will remain in focus in 2021.

United States

In the United States, the label “ESG” has not taken hold as in the UK and Continental Europe. Because insurance is regulated by each state, individual regulators’ approaches to ESG-related issues vary, particularly since the label does not carry a uniform meaning across all state jurisdictions.

In recent years, climate change-related catastrophic risk has been a focus for regulators. For example, in 2020, the National Association of Insurance Commissioners (NAIC) created a new task force focused on “Climate & Resiliency.” The stated purpose of the task force includes consideration of “appropriate climate risk disclosures,” evaluation of insurers’ modeling as it relates to climate risk, and the application of technology to the mitigation of natural disasters.

U.S. regulators continue to expand the use of surveys and mandatory disclosures to try to raise the profile of climate-related priorities. A few examples stand out:

National. The NAIC continues to administer an Insurer Climate Risk Disclosure Survey that has expanded to six states (California, Connecticut, Minnesota, New Mexico, New York, and Washington) and includes insurers writing at least US$100 million in annual direct premium. The survey asks insurers about, for example, organizational efforts to reduce emissions and any climate change considerations that affect insurers’ investment management strategy. On June 8, 2021, the California and Washington State Commissioners released a joint statement announcing that they “formally asked all insurers that are currently required to report to them annually on climate change to start reporting their climate risks in alignment with the Task Force on Climate-related Financial Disclosures (TCFD).”

California. In 2020, the California Insurance Commissioner initiated a consumer-facing “green insurance products” database to draw attention to certain policies that address climate risks. In 2016, California’s Insurance Commissioner began the Climate Risk Carbon Initiative, which asks California insurers to disclose whether or not they had divested or would divest from thermal coal investments. Insurers with over US$100 million in annual premium are required to publicly disclose their fossil fuel investments (including oil and gas). The Commissioner pursued this expressly with a view towards potentially treating certain fossil fuel investments as “stranded assets,” so that they would not count towards required surplus.

New York. In 2020, the New York State Department of Financial Services (DFS) issued an Insurance Circular Letter, which called for integrating questions about insurers’ activities related to the financial risks from climate change into DFS’s examination process starting in 2021. More recently, in March 2021, the DFS issued “proposed guidance” for insurers on managing the financial risks from climate change. This guidance specifies a number of “expectations” that the DFS has for insurers’ consideration of climate risks in their governance structures, business decisions, disclosures, and more.

Not all regulators in the United States have expressly endorsed ESG priorities. In November 2020, the U.S. Department of Labor under the Trump Administration issued a final rule for investment managers of ERISA (Employee Retirement Income Security Act of 1974) fiduciaries to evaluate investments “solely on pecuniary factors.” A purpose of the final rule was to free ERISA fiduciaries from the burdens of considering “ESG investment trends” and to assure them that they meet their obligations by considering traditional risk-return factors.

As expected, in March 2021, the U.S. Department of Labor under the Biden Administration announced a “non-enforcement policy” for this rule pending further guidance. The Department stated that it heard from industry stakeholders that the rule had a “chilling effect on appropriate integration of ESG factors in investment decisions....”

Mexico and Brazil

Although Mexico and Brazil ratified the Paris Agreement in 2016, in recent years under the Andrés Manuel López Obrador and Jair Bolsonaro administrations, Mexico and Brazil have trended away from a focus on ESG issues. Insurers’ investment portfolios are tightly regulated in Mexico, for example, and are focused on capital preservation. As of now, it appears ESG is not a regulatory priority.

Authored by Carlos Ramos, Birgit Reese, Jonathan Russell, Vanessa Wells and Jordan Teti.