What’s Driving Insurers to Prioritize ESG Investments? Hint: Climate Change Isn’t the Only Factor
A recent survey of 280 decision makers at U.S.-based life/annuity and P&C insurers shows increased attention and commitment to aligning investments with Environmental, Social and Governance (ESG) goals.
According to the survey, conducted by Conning, an institutional insurance asset management firm, 41% began incorporating ESG factors within the past year and 79% in the past two years. Only 12% reported doing so more than two years ago.
“One of the chief takeaways is that companies are seeing the benefits of ESG, both in investment and just in their overall operations,” said Terence Martin, director of insurance research at Conning.
“And they’re less concerned about some of the cost of implementing and some of the risks that may be associated with doing these sorts of things.”
What’s Driving Increased ESG Investment?
Corporate reputation was the most-cited reason for focusing on ESG in investment with 92% of decision makers citing it as a driver.
Customer and employee concerns, regulatory requirements, leadership concerns about social issues, and the potential for competitive advantage, including in attracting talent followed closely behind it.
“There have been many studies out there about younger employees looking for firms that reflect their views. In general, younger people tend to be much more concerned about those things than some of the older people,” Martin said.
“It’s hardly a stretch to think that having a robust ESG type program and DEI, diversity, equity and inclusion being part of the social item, being strong on that would help with recruiting.”
Martin expressed surprise that regulators were not a driving force behind the trend.
“Regulators were about the middle of the pack,” Martin said. “Rating agencies were quite low on the list of what stakeholders were driving this. It was much more driven by employee concerns, as well as customer concerns.”
A majority of respondents voiced concerns over a lack of ESG standards, with 59% agreeing with the statement, “It’s hard to know what standards are being applied and how effective our asset managers are in supporting ESG goals.”
“They were more concerned about the lack of consistency and the difficulty in doing some of the reporting because things aren’t standardized, then with any risks associated with it,” Martin said. “And overall, those both were beat out by inflation and market volatility and such.”
There are, however, efforts to align the disparate standards already out there.
“There’s a whole alphabet soup of standards out there that have been developed by different entities — the Principles for Responsible Investments coming out of the UN, the Sustainable Accounting Standards Board is out there, TCFD, the Task Force for Climate-Related Financial Disclosures,” Martin said.
“Each one’s been developed on its own, but four of those agencies have banded together to create the Better Alignment Project with hopes of bringing them closer together. And some of the big accounting firms have been working together with the international business council and the world economic forum to try and bring some standardization, but obviously it’s got a long way to go.”
The SEC is also expected to weigh in soon with new standards, which should provide greater clarity.
“The SEC chair put out a goal to come up with a draft by the end of 2021 and to my knowledge, it hasn’t actually hit the press,” said Martin. “So, they may not have made that particular goal, but they are trying to come up with a proposal for a standardized reporting on some of these factors.”
Will Companies Embrace New Regulations?
Martin expects that while companies are averse to new regulations in general, they will welcome the simplicity and clarity of having a single, overarching set of standards.
The survey revealed a higher level of concern over standards among smaller companies than larger ones, which Martin said is not surprising.
“If you’ve got some huge corporation, to add one more standard or one or two different things to the reporting and data that you have to mush around your report out is not a big deal,” Martin said.
“You get a small company, then you add three or four things and you may have to hire two or three people and that’s doubling the workforce in there. I think it’s just a matter of scale, where the bigger companies see that that add-on is being very minor as opposed to it being a much larger disruption, just because people are stretched thinner at a smaller company.”
The U.S. trend lags a similar trend in Europe.
“It was much more of concern in European companies earlier on, and now we’re seeing it come here,” said Martin. “US regulators were kind of slow to it compared to the European regulators.”
Matt Daly, head of corporate and municipal teams at Conning, attributes part of the lag to the COVID pandemic.
“It was accelerating going into COVID, and then obviously when that happened, I think all eyes shifted to market dynamics and getting through the changes associated with COVID, but it’s certainly been building,” Daly said. “It took a little bit after COVID to start going and becoming a top of mind, but we’re certainly there now.”
Differences Between P&C and Life/Annuity Insurers
There were notable differences on several responses between life/annuity insurers and P&C insurers, including a greater rate of early adoption of ESG standards and greater concerns about inflation by life/annuity insurers, compared to P&C insurers.
Martin attributes this to the fact that 20% of revenue on the life/annuity side comes from investments, compared to only 8 or 9% on the P&C side.
“It’s a much bigger deal as to what the investments are doing on the life/annuity side than it is for P&C,” Martin said.
“So as these life companies look at their investments, looking at the risks of having stranded assets, if they’re invested a whole bunch of investments in the coal industry and suddenly this becomes untenable and these assets get stranded, that’s going be a very large concern when 20% of your revenue comes from investments.”
Where External Asset Managers Fit In
One potential upshot to increased focus on ESG could be a growing reliance on external asset managers, particularly those with a competency in ESG.
“External managers increasingly will need to have a competency in ESG to meet this demand,” Daly said.
“I think there will be growing demand and I think part of what asset managers are going to need to do is be able to help in this process, to provide some education, some guidance and, importantly, have the appropriate data, appropriate tools in place to meet this demand, whether it be integrating these ESG factors into the process, helping clients, insurance companies, just navigate the ESG landscape and being able to really get our arms around what are the financial risks associated with climate change? That’s a very important component of this.”
ESG is doubly relevant to the insurance industry because of its impact on both investment strategies and risk.
“Insurance companies are in somewhat of a unique position here,” said Daly.
“Certainly, the underwriting, that’s an insurance company’s expertise, and ESG is a part of that. Climate change, the insuring of properties, understanding those financial risks associated with climate change, that’s a core competency. But insurance companies also influence large amounts of capital via their investment portfolios and then the resulting allocation of that capital. So, in a sense, being the asset owners, they’re in a unique position to overlay those ESG preferences into the portfolio as they think about allocation.”
Daly anticipates the increased focus on ESG investing will only continue.
“Despite the many considerations, resources, and challenges involved with implementing ESG-focused investing, insurers seem to understand that, ultimately, the benefits outweigh the costs,” Daly said.
“Given the responses we saw in this survey, ESG is likely to become an even more central part of insurance asset management in the near future.” &