Time to Act: Cli­mate Change Ag­gra­vat­ing Costs of Stranded As­sets

MOST READ­ERS WOULD BE FA­MIL­IAR WITH THE PO­TEN­TIALLY DEV­AS­TAT­ING LOSSES RE­SULT­ING FROM GLOBAL CLI­MATE CHANGE. MANY, HOW­EVER, ARE STILL LEFT IN THE DARK AROUND THE STRAND­ING OF AS­SETS AS AN IN­CREAS­INGLY COM­MON CON­SE­QUENCE OF CLI­MATE CHANGE.

Insurance - - CONTENTS - Text Kent Chap­lin, CEO of Lloyd’s Asia Pa­cific

De­fined as as­sets that have suf­fered from unan­tic­i­pated or pre­ma­ture write­downs, de­val­u­a­tion or con­ver­sion to li­a­bil­i­ties, stranded as­sets have be­come an in­creas­ingly high pro­file is­sue.

More and more, en­vi­ron­men­tal fac­tors, such as cli­mate change and so­ci­ety’s at­ti­tude to­ward it, are in­cluded as pos­si­ble causes to as­set-strand­ing.

This is im­por­tant for Malaysia, as one of Asia’s most prom­i­nent own­ers of oil and gas re­serves, as well as one of the world’s largest pro­duc­ers of liq­ue­fied nat­u­ral gas. Busi­nesses, such as those in the oil & gas sec­tor, must un­der­stand the po­ten­tial cost of cli­mate change compounding their risks of stranded as­sets.

WHY IS THE IS­SUE OF STRANDED AS­SETS IM­POR­TANT?

As­set-strand­ing is an in­evitable risk of op­er­at­ing in a mar­ket econ­omy. How­ever, the is­sue with stranded as­sets has be­come more sig­nif­i­cant when re­lated to en­vi­ron­men­tal fac­tors, due to the scale of loss that can oc­cur. Many of these risks are poorly un­der­stood and are reg­u­larly mis­priced, re­sult­ing in an over-ex­po­sure to such risks in economies through­out the world. In our re­port “Stranded As­sets: the tran­si­tion to a low car­bon econ­omy”, Lloyd’s breaks down these en­vi­ron­men­tal risks into two cat­e­gories of phys­i­cal and so­ci­etal fac­tors and is­sues (Fig­ure 1). The risks within these cat­e­gories are not en­tirely in­de­pen­dent of one an­other. So­ci­etal risks may am­plify phys­i­cal risks through mul­ti­ple chan­nels, and vice versa.

More and more, en­vi­ron­men­tal fac­tors, such as cli­mate change and so­ci­ety’s at­ti­tude to­ward it, are in­cluded as pos­si­ble causes to as­set-strand­ing.

Each of these en­vi­ron­men­tal-re­lated risks is al­ready vis­i­ble in the global econ­omy across a wide range of sec­tors and ge­ogra­phies, and this trend is ac­cel­er­at­ing. Mul­ti­ple risk fac­tors can de­velop in a spe­cific sec­tor or ge­og­ra­phy si­mul­ta­ne­ously, and can demon­strate cor­re­la­tion with one an­other. For ex­am­ple, coal-min­ing as­sets in Aus­tralia have been neg­a­tively im­pacted by wide­spread so­ci­etal pres­sure in China to re­duce its de­pen­dence on ther­mal coal – to­gether with China’s in­crease in re­new­able en­ergy gen­er­a­tion – as a re­sult of wors­en­ing air pol­lu­tion and de­creas­ing wa­ter avail­abil­ity caused by cli­mate change. Over in the oil and gas in­dus­try, a re­port jointly is­sued by In­ter­na­tional En­ergy Agency (IEA) and the In­ter­na­tional Re­new­able En­ergy Agency (IRENA) high­lighted that the global econ­omy stands to lose po­ten­tially US$10 tril­lion in stranded

We see op­por­tu­ni­ties for in­sur­ers, com­pa­nies and gov­ern­ments to work to­gether and en­sure the world is bet­ter pre­pared to re­spond.

fos­sil fuel as­sets (e.g. coal, oil, gas) by 2050, if the en­ergy sec­tor de­lays its tran­si­tion to a car­bon-light sup­ply mix.

Tak­ing Malaysia’s oil & gas in­dus­try as an ex­am­ple, it must pre­pare for these en­vi­ron­men­tal-re­lated risks if it is tar­get­ing to grow an­nu­ally by 5% un­til 2020.

WHAT DOES THIS MEAN FOR IN­SUR­ERS?

What has changed is that the strand­ing of as­sets in the en­vi­ron­men­tal con­text, now due to cli­mate change, could po­ten­tially in­duce higher rates of strand­ing.

Changes to the phys­i­cal en­vi­ron­ment, and so­ci­ety’s re­sponse to these changes, could po­ten­tially strand en­tire re­gions and global in­dus­tries within a very short time­frame, with di­rect and in­di­rect im­pacts on in­ter­na­tional in­surance mar­kets. This has be­come an im­por­tant and grow­ing area of re­search as more and more as­sets get stranded

Our Stranded As­sets re­port pro­vides fur­ther sce­nar­ios, ac­tual and po­ten­tial (Fig­ure 2), to help the in­dus­try bet­ter un­der­stand the phys­i­cal and so­cial risks that could cre­ate stranded as­sets and could leave in­sur­ers ex­posed to fi­nan­cial risk.

This is not an ex­haus­tive list, how­ever, but it pro­vides a plat­form for dis­cus­sion in the in­surance in­dus­try and brings aware­ness to the im­pact of as­set strand­ing on the in­dus­try’s li­a­bil­i­ties and as­sets.

WHAT CAN IN­DI­VID­UAL COM­PA­NIES AND COL­LEC­TIVE IN­VESTORS (LIKE IN­SUR­ERS) DO TO IDEN­TIFY AND MIT­I­GATE STRANDED AS­SET RISKS?

Stress-test­ing is a good place to start. We need more rig­or­ous anal­y­sis of port­fo­lio ex­po­sures to en­vi­ron­men­tal­re­lated risks. That means test­ing as­sets against a larger num­ber of ex­treme fu­ture sce­nar­ios.

Screen­ing is also crit­i­cal. In­vestors will need to ei­ther ex­clude some in­vest­ments from their port­fo­lios or in­clude cer­tain in­vest­ments based on spec­i­fied en­vi­ron­men­tal qual­i­fi­ca­tions.

Col­lec­tive in­vestors like in­sur­ers can con­sider press­ing for en­hanced trans­parency in the dis­clo­sure prac­tices of com­pa­nies they in­vest in. They can also col­lab­o­rate in the devel­op­ment of re­gional, na­tional and in­ter­na­tional leg­is­la­tion on en­vi­ron­men­tal change.

In­vestors can also pur­sue joint ven­tures to de­velop in­vest­ment op­por­tu­ni­ties or prod­ucts to spread the risks and costs of mit­i­gat­ing or re­mov­ing ex­po­sures to some en­vi­ron­ment-re­lated risks. Ex­am­ples in­clude joint in­vest­ments in re­new­able-en­ergy in­fra­struc­ture, or the fi­nanc­ing of schemes for sus­tain­able devel­op­ment.

In this re­spect, Malaysia is al­ready forg­ing its way ahead. It in­tro­duced its Na­tional Green Tech­nol­ogy Pol­icy and Na­tional Pol­icy on Cli­mate Change in the 2000s; it es­tab­lished the Malaysian Green Tech­nol­ogy Cor­po­ra­tion and in­tro­duced its Low Car­bon Cities Frame­work to drive the coun­try’s jour­ney in green tech­nol­ogy and sus­tain­able liv­ing.

Al­though think­ing through the fu­ture ef­fects of cli­mate change and the strand­ing of as­sets may be cause for alarm, we see op­por­tu­ni­ties for in­sur­ers, com­pa­nies and gov­ern­ments to work to­gether and en­sure the world is bet­ter pre­pared to re­spond. The challenge then for all of us, is to re­alise words into ac­tion.

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