12 minute read
Insurance Management
6. Guernsey and the just transition: sector-specific guidance
This chapter provides specific overview of the key opportunities, risks and mitigations for each sub-sector within the Guernsey finance industry – covering insurance and insurance management, investment funds and management, trust and company, private banking and pensions.
6.1 Insurance and insurance management
Guernsey is home to over 600 insurance companies and cells, with gross assets valued at £31.4 billion and gross written premiums standing at approximately £4.62 billion.45 Renowned as a leading global centre for non-US and international captive insurance, Guernsey is already recognised as a leader for innovation in the insurance sector.
What role can it play?
In its core role, insurers provide resilience, by funding the fix, supporting individuals, businesses and communities to build back and recover from loss events. As asset owners, insurers also have a key role to play in faciliating the allocation of capital towards just transition objectives. In Guernsey, there are a number of unique strengths that can be leveraged to help support this:
Captive insurance: Guernsey is home to captives for almost 40% of the FTSE 100 companies, with 37% of European captive market and 5% of the global market domiciled in Guernsey.46 Captives can be used to warehouse acute perils that are deemed too expensive to place in a traditional insurance market, and provide alternative risk transfer solutions for emerging technologies or negative externalities such as GHG emissions, nature loss and human rights violations.
Reinsurers: As the severity and frequency of climate events increases, reinsurers are well placed to provide collateralised catastrophe reinsurance (via insurance linked securities) and must facilitate climate-centric product innovation by working with insurers to adjust their risk appetite and pricing strategies to protect balance sheets, by realigning their pricing, attachment and deductible structures (including the reassessment and sale of legacy assets/liabilities).
Insurance Linked Securities: Financial instruments designed to fill the gap between insurance capital and the potential losses from natural catastrophe events, with their value driven by an insured loss event. ILS can be thought of as a climate-indexed investment issued to trigger resilience funding following a loss event and enable a rapid and efficient response to those affected (for example catastrophe bonds ‘cat’ issued by the government of Mexico to manage its hurricane and earthquake risk47 or longevity risks for life insurance).
46 Guernsey Finance, Captive insurance: Expert solutions provided from Guernsey, 01 February 2020
Protected Cell Company (PCC) and Incorporated Cell Company (ICC): Designed for use in the captive insurance sector, PCCs and ICCs were pioneered by Guernsey to provide legal segregation between assets and liabilities. PCCs could be used to support the transition, for example, to ring-fence risk around assets that are transitioning, and allow stop-loss reinsurance to cover catastrophe exposures on investments.
Insurance Intermediaries: Are key for positioning the importance of positive transition strategies with insurers. As insurers begin to pay attention to individual company profiles in relation to climate, intermediaries are crucial to aligning the C-suite of a company to the market requirements.
General Insurance: General Insurance for Guernsey Residents can continue to innovate new products that can help their clients with transition risk, for example, around buildings and use of sustainable building material in property or construction underwriting criteria, or to create incentives e.g. lower premiums for customers making green choices such as adoption of heat pumps.
Transparent governance structures and disclosures: To enable these opportunities, Guernsey must leverage its strong reputation as a stable jurisdiction and “good governor” to support and facilitate the measured, orderly transition around “brown” assets through transparent governance structures and disclosures. This is absolutely critical to counter any greenwashing risks associated with housing these assets.
What has been done to date?
Adoption of the Principles for Sustainable Insurance: The Guernsey International Insurance Association (GIIA) represents both Guernsey insurers and Guernsey insurance managers. GIIA has signed up to the UNEP Principles for Sustainable Insurance (PSI) which dictate that all their members embed ESG issues into decision making, raise awareness of ESG issues, manage ESG risk and develop solutions, work with governments and other key stakeholders, and disclose progress in implementing the principles.
Innovative ESG Framework and kitemark for insurers: GIIA was involved in the development of a pioneering ESG framework for insurers to help them align to the UN SDGs across key underwriting, investment and reporting activities, and achieve a kitemark for doing so. A private catastrophe (CAT) bond was first to achieve the GIIA ESG kitemark in March 2021, listed on TISE sustainable in November 2021. An initial $3 million was raised through private placement with specialist bond investors to cover the risk of 10 volcanic eruptions across three continents.48
Capital requirements for life insurers: In 2020, the GFSC issued a consultation to incentivise green investing within the insurance sector, reduce capital requirements for green fixed income assets of commercial life insurers and commercial life reinsurers.49
48 The International Stock Exchange, November 2021, TISE lists world-first humanitarian catastrophe bond | TISE (tisegroup.com)
49 Guernsey Financial Services Commission (GFSC), Consultation Paper on Proposals for a Green Investment Discount for life insurer capital requirements, October 2020
What are the key levers the sector has to pull?
Meeting net zero will require action across the full scope of insurance operations, supply chain, underwriting and investments.
A set of holistic actions applicable to all firms are described in section 5 above. To steer towards net zero goals and facilitate emissions reduction in each of the three domains above for insurers will require a combination of:
Sustainable Operations: Develop a clear strategy and timeline to reduce emissions across the operating model, for example, renewable energy contracts, carbon removal for unavoidable emissions, reduce business travel, waste management, recycling and consumables policies, conservation and biodiversity planning for premises
Sustainable Investment Portfolio: Use the role and influence as an Asset Owner to drive a holistic set of ESG objectives into your investment mandates, including the objective to transition invested portfolios in line with the net zero goal for managed funds. The Net Zero Asset Owner’s Alliance (NZAOA) provides some guidance around this via its target-setting protocol.50
Sustainable Operations:
Reduce Operational Scope 1, 2 and 3 emissions, offset via credible carbon initiatives
Net Zero value chain/ supply chain
Understanding implications of NZ initiatives (e.g. building types)
Sustainable Claims - Repair, Recycle, Salvage first
Build Back Greener - Incentivise change through claims (settlement incentives) Realistically and sensitively reduce ‘financed emissions’ using the “follow the money” principle
Investment mandate (AO) and Investment decisions (AM) in line with your top-down Net Zero plan and reflected across the business
Carbon accounting in line with industry standards (PCAF etc) Target Net Zero ‘insurance associated emissions’ using “follow the risk” principle
Support industry in Net Zero underwriting and carbon accounting efforts
Continue to develop Climate Risk analysis and Actuarial-based CAT modelling and stress-testing
Climate-centric product innovation and risk factors for pricing
Investment Portfolio: Underwriting:
Sustainable Underwriting and Claims: Following the steps outlined in section 5.3 and 5.4, build an understanding of how your business can support a just transition. Key steps include:
Carbon accounting and adoption of standards51
Assess ESG factors across your underwriting portfolio in order to identify those relevant to each product, for example, decarbonisation in property (E), human trafficking or controversial weapons in cargo (S), or bribery and corruption in D&O (G)
Identify opportunities to bridge the protection gap52 by continuing to develop risk and pricing models that optimise pricing or utilising parametric policies, Lloyds has suggested that just a 1% increase in insurance coverage could reduce the global cost of climate-related disasters to taxpayers and governments by 22%53
Evolve your underwriting portfolio plan in line with the wider economic transition by balancing risk and opportunities against target loss ratios
Help educate and inform clients about ESG factors that impact pricing and policy or a roadmap for underwriting exclusion; Share the emerging financial risks for ‘brown assets’ such as litigation, increased taxation, asset deterioration and increased insurance costs associated with the ‘greening’ of the brown asset
Influence consumer behaviour with pricing incentives in GI and use your position as a captive to demand parent company ESG policies and transition plans meet your expectations
Incentivise change through claims with build back greener settlement incentives, address both industry and consumer behaviours by forcing change in manufacturing, repair, re-use, recycle
Engage with the wider industry networks e.g. GIIA, NZIA and NZAOA, to help collaborate and improve practical advice around underwriting for a just transition to net zero, as an area with limited guidance available to date
51 PCAF, GHG emissions associated to insurance and reinsurance underwriting portfolios, Scoping document March 2022
52 The Geneva Association, Understanding and Addressing Global Insurance Protection Gaps, April 2018
53 The Insurer, August 2021, Why climate risk matters and how the insurance industry can close the protection gap | Viewpoint | The Insurer
What are the key risks, and how can we mitigate them?
The insurance sector faces risks around delivering a just and equitable transition to net zero, with stranded asset risk and the lack of data amongst the most commonly cited. The table below outlines some of these risks in more detail, alongside some example mitigations:
Theme
Stranded asset risk Risk
A stranded asset is an asset that has suffered from unanticipated or premature write-downs, devaluation or conversion to liabilities, for example property with increasing risk of sea level rise.
There is a risk that in the pursuit of net zero, ‘brown assets’ become ‘stranded assets’.
The insurance protection gap is the difference between the amount of insurance that is economically beneficial and the amount of coverage actually purchased. Those assets lost due to an event are written off, or often recovered by taxpayers and governments. Ensuring a just transition means insurers must strive to close the protection gap, treatment of stranded assets must be solved, for example, insuring as a separate product, reinsurance or parametric policies.
Similar to the treatment of stranded assets, the Guernsey insurance sector is well placed to offer innovative solutions. Examples include parametric insurance and ILS.
Societal pressure will increasingly demand that insurers innovative products for those adversely affected by transition (i.e. loss of work in carbon intensive sectors).
Mitigation
Bridging the protection gap
Theme
Data availability and accuracy for insured assets:
Risk modelling and pricing Risk Risk
At present, insurers have limited access to ESG data for their insured assets of clients, nor standardised methodology/ rules for what should be captured to support assessment of assets vs clients.
Traditional insurance risk models rely on historical loss and exposure data, though in recent years, increased intensity of severe weather in areas of high population and economic value have demonstrated that real-world risk dynamics are changing.
As catastrophe modelling is becoming less and less predictable, there is a risk that pricing and reserves are not appropriately managed to cover losses. With the exception of the Poseidon Principles for Marine there are not yet formal principles for the measurement of GHG emissions in an underwriting portfolio, however, the NZIA is collaborating PCAF to produce a target-setting protocol by January 2023 in collaboration with the Science Based Targets Initiative (SBTi).
The sustainability disclosure regulation, e.g. SFDR in the EU will drive improvements in wider ESG metrics over time, but to bridge the gap, Lloyds have requested that all managing agents create a first version of their own ESG frameworks, governance and strategies which will drive change across the industry.
To improve the basis of sustainable underwriting and investment decision-making, modelling tools are adapting to reflect both past experience, and present and likely future developments.
Changes in modelling and inclusion of transition plans will support the development of new technologies and net zero products, service and technologies (i.e. innovative construction methods or new manufacturing processes).
Mitigation
Theme
Understanding cultural challenges around net zero underwriting
Lack of guidance
Policy uncertainty Risk
With policies renewed on an annual basis, risk has been viewed through a short-term lens, as an instrument to absorb financial shocks or to transfer risk but without a holistic or long-term view of systemic risks; although physical risk analytics have been long established, measuring and insuring transition risks is much less familiar.54
Lack of guidance around what to do for insurance, including standardised definitions on insurance-associated emissions, or applicability of certain frameworks for insurers, is a key challenge that the sector is grappling with.
The lack of clarity on policy landscape to support delivery of net zero goals (e.g. energy transition or deforestation policies) may lead to mispricing of risks associated with transition, if not factored in correctly or in time. Cultural change is needed across the industry to recognise that the transition journey can be driven by underwriting behaviours, and a just transition can only be achieved with insurers working at the heart to provide social protection through financing resilience.
Framework: Extend the GIIA ESG framework to include and define just transition, review and adopt frameworks emerging from the Lloyds market through 2023 onwards. Practical guidance on transition for insurers should include definitions of key terms, as well as further guidance on underwriting activities.
Reduce regulatory barriers: The Commission can take action in trying to reduce the national regulatory barriers that stand in the way of catastrophic reinsurance (either alternative or traditional) written out of IFCs such as Guernsey.
Mitigation
Guernsey facilitates innovation in catastrophe insurance: A pioneering $3 million Cat bond, brought to market in March 2021 using a Guernsey insurance-linked securities (ILS) structure, was the first ever bond to provide humanitarian cover for pure volcanic eruption. This was later listed on Guernsey’s sustainable stock exchange, TISE Sustainable, in November 2021. It was also the first insurance entity to be accredited under GIIA’s ESG Framework.
Humanitarian Threat Mitigation: The bond covers the risk of eruption for 10 volcanoes across three continents with at least 700,000 individuals living within 60 miles (100km) radius. The bond is designed to support fast humanitarian aid in the event of an eruption, supported by predictive modelling developed by Mitiga Solutions to estimate when and where funds will be needed and facilitate faster pay-outs.
Leveraging the Blockchain: The bond also sits on Replexus’ unique ILS Blockchain platform to provide a lower-cost solution for processing transactions on the secondary market, where initial investors included Plenum Investments, Schroder Investment Management and Solidum Partners.
55 WE ARE GUERNSEY, World-first catastrophe bond issued via Guernsey ILS structure | WE ARE GUERNSEY, TISE, TISE lists world-first humanitarian catastrophe bond | TISE (tisegroup.com) and Insurance Journal, World’s 1st Catastrophe Bond for Volcanic Eruptions Aims to Improve Disaster Relief (insurancejournal.com)
