SEVERE events resulting from human-induced climate change now feature prominently in weekly global news, with each season bringing a new example of how far along the climate risk curve the planet truly is.
The escalating frequency and severity of extreme weather-related events have focused financial services regulators to act on climate-related risks and disclosure requirements within the sector. Sustainability is now an increasing focus for all businesses, and it is imperative that brokers consider changing their business models to take account of these risks and ensure that they are prepared for this ‘new normal’.
A changing landscape
In the summer of 2022 alone, wildfires have burnt more than 800,000 acres in Europe, drought conditions affected two-thirds of Europe and the monsoon season has resulted in a third of Pakistan being submerged in flood waters. Unfortunately, these events are only a handful of many that are predicted to get progressively more frequent and more severe, even if the average global temperature is limited to well below two degrees in line with the Paris Agreement.
To achieve the ambitions of the Agreement and avoid the worst effects of human-induced climate change, the global economy must transition from one reliant on the burning of fossil fuel and into a sustainable circular economy fueled by renewable energy. Global governmental and regulatory bodies are leading their sectors by setting out frameworks which allow market participants to classify their activities through a sustainable lens. Incentivising the economic transition and flow of funding into sustainable, lower emissions businesses.
Regulators worldwide are also moving to ensure that banks, insurers, brokers, and asset managers identify risk exposures from climate change, establish strategies and adjust business models to manage them. As the insurance landscape evolves due to growing risk management and regulatory pressures resulting from climate change, brokers need to change and adapt to their clients’ needs in this expanding landscape as well. “Insurers and assets managers need to be cognisant of the climate risks which may impact their strategies and business model. In addition, client preferences, behaviours and attitudes are changing towards climate risk,” says Marc Aboud, Sustainability Director at Deloitte Ireland.
“Brokers are in a unique position as they often sit between these two stakeholders and are not only affected by the climate related impacts to their strategy and business model but also how they can be the conduit for their clients’ preferences.” As such, brokers need to evaluate both physical risk (such as loss of property or productivity arising from weather-related events, such as floods or storms), transition risk (the financial risks which could arise for clients from the transition to a lower carbon economy) and liability risk (arising for the insurance industry from parties who have suffered loss from climate change).
Regulators in the European Union have moved swiftly to create policies aimed at establishing climate risk at the heart of firms’ investment decisions, governance, and risk management processes. From an Irish perspective, the Central Bank of Ireland issued a ‘Dear CEO’ letter to regulated financial services providers regarding compliance with statutory and regulatory obligations on climate and broader environmental, social and governance (ESG) issues.
On 2 August 2021, the final rules that amend sectoral legislation were also published in the Official Journal of the European Union (‘EU OJ’). These include Insurance Distribution Directive (IDD), The Markets in Financial Instruments Directive II (MIFIDII), The Alternative Investment Fund Managers Directive (AIFMD), Undertakings for the Collective Investment in Transferable Securities (UCITS) and Solvency II.
Therefore, Insurance and Financial Brokers are now required to comply with some further sustainabilityrelated obligations. Brokers providing advice on insurance-based investment products (IBIPs) and investment firms providing investment advice should also make sure to comply with additional sustainabilityrelated disclosures towards their customers, in accordance with the Sustainable Finance Disclosures Regulation (SFDR).
“Financial Brokers who provide advice on IBIPs, and investment firms that provide investment advice, are required to consider and factor in sustainability risks in their advisory processes, and to provide information in accordance with the SFDR, both at entity level (on their website) and at product level (at pre-contractual stage),” explains Aboud.
However, climate change should not only be considered a risk, but also a significant opportunity for all industries. For example, The Financial Stability Board created the Task Force on Climate-Related Financial Disclosures to improve and increase reporting of climate-related financial information. In 2017, the TCFD released climaterelated financial disclosure recommendations designed to help companies provide better information to support informed capital allocation.
The TCFD does not only focus on climate-related risks but also the opportunities that are associated with a changing landscape. The TCFD categorises these opportunities using drivers including resource efficiency, products and services, energy source, markets, and resilience.
Amid these risks and opportunities, understanding the extent of exposure and the level of potential future regulation will be key for Brokers to adapt and change their own business models, as well as their role as Brokers. Brokers should consider expanding their advisory role to include climate and sustainability risk and update their sales process to reflect the sustainability suitability assessment.
Climate Risk – A Guide for Brokers It can be difficult for Brokers to identify practical ways to respond to these developments, so Brokers Ireland and Deloitte have teamed up to provide guidance to Brokers Ireland members through the new publication Climate Risk – A Guide for Brokers.
This guide offers practitioner implementation insight from the brokers perspective and covers the growing number of climate considerations and above-mentioned regulations they are expected to address. It will provide an overview of how climate change will affect the insurance and investments industries, the risks that both Insurance Brokers and Financial Brokers will face as a result of climate change, high level guidance for required disclosures in relation to customer sustainability preferences and a high-level template or checklist that Brokers can consider in relation to climate risk and regulation.
Both the Climate Risk guide and a webinar on climate risk and regulation featuring Marc Aboud and Grainne Temple from Deloitte Ireland are available on the Brokers Ireland website at brokersireland.ie