Climate risk has never been a more critical topic. Ned Holmes investigates how Aon’s Climate Risk Advisory team, launched in May this year, is keeping up with shifting attitudes and how captives fit in
The impacts of climate change are now impossible to ignore. Global records continue to be broken for all the wrong reasons, while the effect and regularity of unpredictable, extreme weather events mean that climate resilience is more important than ever.
Organisations are repositioning themselves to ensure they can better understand the perils facing them to have the right frameworks in place.
In May, Aon announced the launch of a new Climate Risk Advisory team in a move to realign their approach and refocus their climate risk offering to clients. As part of the initiative, the company has advanced its climate data and analytics.
However, giving climate risk advice is by no means a novel concept for Aon; the company has been delivering it for decades. Its professionals, such as Liz Henderson and Megan Hart, have been motivated by the ever-changing understanding of climate-related perils.
They look at how those perils are modelled, and, most importantly, the concerns of their clients.
“[The initiation of the advisory team] was driven primarily by our clients,” explains Aon’s Henderson, global head of Climate Risk Advisory. She says: “They are looking for more streamlined climate risk support across reinsurance and commercial risk.
“Clients that are exposed to risk, no matter what sector they’re in, are going to need access to advanced data and analytics as well as sophisticated advisory support in order to navigate the volatility that’s coming their way — particularly climate-related volatility, among other things.”
Managing director of Climate Risk Advisory, Hart adds: “Over the past few years, conversations with clients have changed. Rather than waiting to see what the regulators ask for, or what their competitors are doing, they recognise they need to do something.
“They’re starting to receive pressure from their senior leadership, investors and employees, in addition to regulators. Clients are realising they no longer have the luxury of time, and they don’t want to get caught on their heels; they don’t want to fall behind their competitors or miss out on potential opportunities.”
Clients and collaborations
Aon’s clients fall into two distinct groups. The first have a good handle on their risk management, but they are trying to understand what the future looks like in terms of their reinsurance strategy. They also need to recognise the increased frequency and severity of events to create a more forward-looking view of risk. The second consists of commercial risk clients – banks, financial institutions, large multinationals and the public sector. They aren’t as aware of some of the tools that the insurance industry has been using.
They’re looking for strategic advice about their climate change risk framework and how to set up the right guiding principles. These factors will help them interpret the appropriate information for their business and to ensure that they’re disclosing accurate and credible results. This means that they should be able to weather the volatility that’s inherent in any kind of climate-related exercises.
In an attempt to be a one-stop shop for both those groups, Aon has built a network of relationships with universities. The network includes 14 different academic researchers, as well as climate analytics providers. Their recent collaboration with AbsoluteClimo, a forecasting and risk management company, is an example of this streamlining.
Hart notes: “It shows our commitment to understanding the landscape and all the teams carrying out relevant research and tool development. We are identifying the right organisations to connect with for research and data gathering. We can digest the research and present it to our clients in a way that they can understand.”
Henderson adds: “Our understanding of the perils is changing, as are the models designed to prepare for these perils. They both require active levels of research.”
“There’s a huge amount of uncertainty around all of this work. Therefore, a robust and resilient climate risk framework will lessen uncertainty, allow for better decision making, and increase the level of potential outcomes resulting from such decisions. That’s a really critical point; there is not one answer, there is not one vendor, there is not one view that rises above all the others. You have to have multiple views. You have to really be able to wrap your arms around the uncertainty to find the robust and accurate disclosures that are required. That’s one of the founding principles of our team.”
Where do captives fit in?
Once a company has a deeper understanding of their current risks, and how they might evolve, captives can come into play as management tools for climate-related risk.
“We describe it as a journey,” says Henderson. “Start with the baseline — understand your current risk and identify your guiding principles to handle the inherent uncertainty. Build out a future-focused view of the risks, understand how it will evolve, then bring in solutions that will help to offset that volatility.”
She continues: “Financial institutions or multinationals, many of whom already have captive set up — but are starting to think about modelling and quantifying this risk for the first time — now have the ability to manage it off of their balance sheet.”
“They can do this in a way that mitigates some volatility. They can create innovative things around reinsurance or parametric cover to further smooth out the results. Financial institutions that have exposure to climate-related risks should question: what can be done to reduce risk, particularly if they are modelling and disclosing to the Federal Reserve and their investors. Captives are definitely one of the tools to help offset volatility. Captives offer a lot of flexibility and support, and should be part of these conversations.”
Hart adds: “There are a lot of different facets to climate risk, and some of them are better understood than others. Concerning captives, there’s a lot of flexibility and control over what can be covered and how. In instances where the traditional market doesn’t have a sufficient amount of data to support it, captives are a great alternative option.
“As we discuss risks with our clients, we sometimes suggest utilising a captive, or to create one, to help solve a problem they might be facing. We’re lucky enough to have leaders in our firm across multiple areas of reinsurance, including captives. They can be brought into our clients’ conversations to help them understand what their options are.”
Climate risk trends
An ever-evolving climate risk landscape means that keeping a finger on the pulse and staying on top of trending developments is vital. Aon has recognised the growing appetite for a more unified approach.
Hart says: “Companies are having to force better collaboration across different parts of their business to handle climate risk. There are a lot of different facets of climate risk and it’s often different parts of the organisation that are trying to tackle these different pieces. However, they need to be tackled more holistically. Over the past 18 months, we’ve seen a shift in industry conversations. There is consensus to create a central unit to bring this all together and make sure that risk is being managed with broader understanding.
The creation of the unit could increase comprehension of how the risk is related across different business units.”
Another is strengthening the bond between academia and the industry, which can only be good news for both parties. Hart explains that “better relationships between academia and industry will evolve our understanding of risk across the board.”
Aon has outlined climate litigation and liability risk as an area to pay close attention to in the coming years. Elaborating on this, Henderson says: “We have already seen a significant increase in the number of cases that have been brought against oil and gas companies, governments, financial institutions and institutional investors.”
These cases often outline the good stewards versus the bad stewards of risk.
“There’s been a massive increase – I think tenfold over the past decade – in the number of these cases,” Henderson adds. “We’ve started to track them and identify where there are potential risks that our clients should be concerned about. We are working with an organisation called Praedicat, which is a casualty clash model that also looks at 10 different climate change scenarios that we want to highlight to our clients. It’ll help them understand how liability risk will manifest itself across general liability, directors’ and officers’ liability and workers comp lines of business.”
She goes on to say: “From an insurance perspective, our clients are asking if there is an aggregation of risk that needs to be addressed. There’ll likely be more activity in the climate litigation space from a risk management perspective.”
Where climate risk and management is concerned, the topic of parametric insurance solutions is rarely far behind. Henderson says this area highlights “a significant opportunity and it’s driven by the fact that climate change is exposing risk in places that people weren’t aware of”.
She concludes: “Indemnity-type products are just not going to be suitable for covering such risk.”
