According to the World Economic Forum’s, Global Risk Report 2022, climate action failure ranked as the number one long-term threat to the world, a far cry from 2015 when it did not even feature among the top global risks. There has been a palpable shift over the years, with environment risks now taking precedence over traditional economic risks. As climate change manifests itself with rapid recurrence of extreme weather events and natural disasters such as droughts, floods and fires, organisations and governments are faced with increasing expectations from stakeholders to respond and adapt effectively.
Integrating ESG considerations with the business processes of a company is hence foundational and a necessary condition for sustainable growth. It also enables companies to foresee and balance material risks better than others and take timely and proactive action to mitigate ESG risks. Demonstrating commitment to ESG parameters additionally gives companies the advantages of greater social credibility, enables them to attract and retain quality talent and promote inclusive growth.
ESG involves taking a multi-stakeholder approach and is hence a valuable input to the value-creation strategy of a Company, spanning diverse areas like investments, risk management, corporate social responsibility, governance and reporting.
The intensity of ESG risks vary from sector to sector. In this context, the material risks pertaining to a particular sector or industry needs to be understood in detail. Here is a brief summary of material risks for the insurance sector:
Environmental Risks: For the insurance industry, particularly the property and casualty insurers, environmental risks have assumed critical importance as the severity of climate change increases. According to the WMO Atlas of Mortality and Economic Losses from Weather, Climate and Water Extremes (1970 – 2019), there were more than 11,000 reported disasters attributed to calamities globally, with over 2 million deaths and US$ 3.64 trillion in losses. Balancing solvency concerns with increasing coverage related to climate related exposure will have instant implications on both public and private sector insurers. To incorporate climate risk in underwriting for life insurers, research is on-going to understand its effect on mortality and morbidity.
Social Risks: Financial services globally are becoming highly data-driven, built on digital networks which need to focus on privacy. The Visual Capitalist[1], documents how several firms expose users to privacy risks by using and monetizing their data. Firms in the European Union can be fined up to 4% of their global revenues if they violate data protection regulations. This can cause irreversible damage to a company’s reputation and hence companies need to ensure strict adherence to data privacy laws. The ability of a company to attract and retain high-quality talent is a key competitive advantage and companies need to be able to design the HR policies, processes and systems in a manner to offer a meaningful value proposition to a multi-generational workforce that meets their life-stage needs.
Governance Risks: The implications of governance-related risks are long-standing in the financial services sector. Trust in a financial services brand is foundational for sustainability and any transgression of governance standards and ethical conduct erodes the confidence of consumers. Being proactive and transparent in disclosures allows companies to safeguard the trust consumers repose in them.
Here are 5 ways in which life insurance companies can mitigate material ESG risks:
Analysing the firm’s materiality ecosystem – Companies need to acquire in depth understanding of the social, economic and demographic context of their consumers and offer them customised products and services that meet their needs. Material risks on E, S and G maybe identified across the customer life cycle and the company’s value chain.
Creating touch-points for knowledge exchange – Structured interactions with stakeholders such as investors, consumers, distributors, regulators and knowledge partners will help in better understanding of risks. Insurance firms can accordingly invest in initiatives as part of their commitment to deepen and enhance their consumer proposition and social impact.
Using Data Modelling and Machine Learning – The purpose of ESG research for insurance companies should be to identify data points that can predict future events such as environmental catastrophes, pandemics, or any event that can have adverse mortality and morbidity impact. Machine learning algorithms can use large and freely available data sets to predict global events and alert decision-makers to restructure or design and price insurance product offerings.
Embedding ESG risk management in decisions –The Company’s risk management strategy needs to incorporate all relevant and material risks and stress testing needs to be done on a regular basis for a variety of scenarios to calibrate risk taking.
Reporting on ESG Frameworks – In India, the Ministry of Corporate Affairs introduced ESG reporting in 2009 by issuing the voluntary guidelines on Corporate Social Responsibility. This was the first step towards mainstreaming the concept of business responsibility. Today, the reporting landscape has come a long way with several options such as the business responsibility and sustainability report, integrated report and others. Communicating meaningfully through these reports is an effective way to engage with all stakeholders. By design, as the insurance industry operates on collective responsibility, these structured reports help communicate the steps taken to upload their responsibility in the long run.
As the global economy becomes more interconnected and transparent, informed consumers will demand more action from their brands to integrate ESG factors into their business model. In the insurance landscape, companies that are proactive in integrating an ESG framework within their operating model will foster greater resilience, earn consumer trust and grow sustainably.