Climate Change Is Hitting the Insurance Industry Hard. Here’s How Swiss Re Is Adapting

On a radiant summer day, all look precisely right on the shore of Switzerland’s Lake Zurich, at the headquarters of global insurance behemoth Swiss Re. The postcard-perfect harbour bustles with bronzed sunbathers, dark-hulled yachts, and picnickers sipping wine. On the street alongside it, cyclists dutifully ring their handlebar bells for pedestrians, and blue-and-white city trams run on time. Inside the headquarters itself—a a complex comprising a 1913 neo-baroque edifice and a 2017 addition sheathed in undulating glass—art worth millions adorns white walls, coffee bars accented in leather and steel dispense mineral water in three levels of carbonation and the employee cafeteria serves up chilled melon soup with mint, organic tofu with mango chutney, and fruit tarts and ice cream.

Yet things are anything but placid for Swiss Re, the 155-year-old corporation that, as measured by the $36.4 billion in revenue it collected from premiums in 2018, is the world’s largest “reinsurance” company. Executives anxiously are weighing the insurer’s financial exposure to some of its biggest clients. PhD. scientists are poring over algorithms to figure out how to cope with ballooning costs. Under intensifying pressure, they’re questioning much of what they know about assessing risk—and making decisions that could redirect billions of dollars.

Little known but crucial to commerce, reinsurers act as backstops of the global economy. They insure major multinationals, huge industrial facilities, and vast portfolios of risk that first-line insurance companies decide they need to hedge. That makes them leading indicators of the condition of capitalism—sprawling enterprises paid to ferret out and manage to emerge mega-threats. Today, the threat that particularly worries Swiss Re is one that, like essentially every other company on the planet, it hasn’t figured out how to accurately quantify, let alone to combat: climate change.

 

For the insurance industry, global warming has advanced from a future ecological challenge to a present financial shock. Together, total losses to the economy from natural catastrophes and “man-made disasters” reached $165 billion in 2018; that followed a 2017 that, at $350 billion, cost more than twice as much. As a result, according to the Swiss Re Institute, the company’s research arm, 2017 and 2018 were for insurers the most-expensive two-year period of such catastrophes on record, requiring them to fork over $219 billion globally in checks. 

 

The majority of the insurers’ 2018 payouts were in North America, triggered by wildfires, thunderstorms, and hurricanes. The economic impact from catastrophes in 2018 alone was “shocking,” Christian Mumenthaler, Swiss Re’s chief executive, told shareholders this past March, in the company’s 2018 annual report. And Swiss Re is convinced, Mumenthaler made clear, that the trend is linked to rising temperatures: “What we’ve experienced over the past year must serve as a wake-up call to stand together in unity and step up our efforts against climate change.”

Ups and downs are old hat to the insurance industry. Over the past two decades, Swiss Re’s natural-catastrophe business has collected more than twice as much in premiums as it has had to spend in payouts. The company’s stock price is robust, and rating agencies generally give Swiss Re high marks. But a potentially worrying trend is developing: For the past two years, Swiss Re has had to pay out vastly more for large natural catastrophes, those over $20 million apiece, than its models anticipated for an average year’s loss. In 2017, Swiss Re expected to incur $1.18 billion in large “nat-cat” losses, based on actuarial averages, but racked up a bill of $3.65 billion. In 2018 it anticipated a $1.15 billion hit but had to absorb $1.9 billion. The biggest single blow that year came from hurricanes—the intense storms that originate in the North Atlantic and Northeastern Pacific. The question is whether this is a rough patch of the sort Swiss Re has absorbed before, or the start of a long-term rise in losses triggered by climate change.  

 

Now the insurer is undertaking a corporate repair job designed to insulate its profits from the heat. Believing that the profitability of coal is on the wane, it’s pulling back from insuring and investing in companies that mine or burn the black rock—a retrenchment that has some of its blue-chip clients fuming. Worried that the complex mathematical models it uses to predict and then “price” coverage for natural-disaster risks need serious rethinking to account for a warming world, Swiss Re is scrambling to improve them. These are potentially pivotal fixes that could have sweeping consequences for the business. But each is in its nascent stages, and each is proving maddeningly hard.
One the morning this summer, I find myself in a conference room in Swiss Re’s complex in Zurich, sitting across a table from Thierry Corti, a lanky A Ph.D. climate scientist who works as the company’s head of sustainability-risk management. “We think day and night about what can go terribly wrong in this world,” he tells me. But climate change, he says, “might be the problem that humanity is not clever enough to really tackle.” As if as an omen, my visit marks the start of a weeklong heat wave that will shatter temperature records across Switzerland and Europe. 

Throughout the financial sector, leading players, from banks to pension funds to insurers, are deciding they could lose big from climate change. Broadly, they cite two threats to capital in a warming world. 
One, “transition risk,” is the specter that the value of massive sunk investments could shrivel, as regulators and investors get serious about slashing carbon emissions. The profitability of fossil-fueled power plants, of coal mines and oilfields, of factories that make internal-­combustion-powered cars—and of the companies behind these assets—could plummet as society decarbonizes. If the shift reached meaningful scale, trillions of dollars worth of infrastructure could lose value, devolving into what investors call “stranded assets.”

There are signs this already is happening. Coal stocks have tanked, in large part because of the increasing cost-competitiveness of lower-carbon fuels: The Dow Jones U.S. Coal Index is down 95% from its 2011 peak. In January, the CRO Forum, a Netherlands-based organization of chief risk officers of big insurers, warned of new sorts of climate-related claims that may confront insurers. Among them: hefty bills from corporations they insure against lawsuits. At this point, legal action charging that big carbon emitters contributed to climate change or failed to react sufficiently to it is just beginning to emerge. But, as the insurance group noted ominously, the science of pinning climate blame on corporate polluters “is developing fast.”

The other threat is “physical risk”: that warming temperatures could trigger enough sea-level rise, storm intensification, and drought-fueled wildfires to wipe vast sums off corporate balance sheets. A Swiss Re Institute chart tracing damage from recent threats looks like ascending peaks in the Alps: Hurricane Sandy in New York in 2012, Hurricane Harvey in Texas and Louisiana in 2017, and the apocalyptic California fires of 2018. (See the graphic below.) By mid-century, observers say, the damage could make what has emerged so far look quaint. In the U.S., the CRO Forum declared, some coastal and forest-fringe areas “are already on the edge of uninsurability.”

Such worries are spurring some of the global economy’s biggest players to act. This year alone, Norway’s sovereign-wealth fund, the world’s largest, said it’s divesting its holdings in pure-play oil-and-gas exploration and production companies, and the Bank of England asked U.K. insurers to assess how climate change might affect their returns. In the past couple of years, many of the world’s biggest insurers and reinsurers—among them Germany’s Allianz and Munich Re, France’s AXA and SCOR, and Chubb, whose biggest market is the U.S.—have announced they are pulling back their coal exposure, either in their investments, their insurance books, or both. Few, though, are taking steps as deep as Swiss Re. Whether those steps end up protecting Swiss Re from cataclysmic exposure, as the company hopes, or handing chunks of its market share to less-climate-concerned rivals, as some executives admit they fear, will depend on how skillfully Swiss Re negotiates this transition.

Death and destructions are Swiss Re’s bread and butter. But what the company finds existentially worrisome about climate change, says J. Eric Smith, Swiss Re’s Americas chief, is that, as the world warms, the company’s “ability to predict frequency” in assessing the future flow of mayhem “is becoming a little shaky.” Smith describes discussions he has had with his fellow executives: “What we say in private is, ‘My gosh, we’ve had two bad years, and now we’re going to have a third bad year?’ ” The crush of intense hurricanes is “ just not right. It’s just not normal that this is happening year after year.”

Swiss Re’s resolve to confront climate change intensified after the 2015 Paris climate the conference, the international gathering at which most countries made voluntary pledges to stanch their emissions enough to prevent average global temperatures from jumping more than two degrees Celsius above preindustrial levels. That’s the threshold beyond which, most scientists say, climate change would have particularly dangerous effects.

Like many big companies, Swiss Re signed a similar voluntary pledge. That, in
 turn, triggered a decision inside the company to analyze the way its investments and its insurance decisions were facilitating the financing of carbon-intensive infrastructure. It wasn’t long, Corti recalls, before support for coal emerged as “the hotspot—the elephant in the room.”

Swiss Re’s initial move was a relative no-brainer: dialing back the money it invested in companies that mine and burn power-related coal. Swiss Re, like insurance companies generally, is a large investor; it parks premium revenue in various assets to earn money to finance future payouts. In 2016, Swiss Re began pulling its investments in mining companies that derive more than 30% of their revenue from coal and from power companies for which coal represented more than 30% of their generation capacity. The investments snagged by that screen have amounted to only $1.3 billion, or about 1% of Swiss Re’s $132 billion investment portfolio. But Swiss Re saw it as a first step in shifting its assets to lower-carbon sectors—a matter not just of environmental benefit but, more important, of financial prudence, with renewable energy getting cheaper and making coal less competitive.

Swiss Re’s next move was more controversial within the firm because it involved the core of its business—deciding whom it would and wouldn’t cover in the first place. After an internal debate, Swiss Re began in July 2018 to decline to insure pools of risk with “exposure” to coal that exceeded 30%. Underneath that catchall word was some important fine print: Swiss Re would apply the restriction, not to the whole company that was applying for coverage but only to the specific property that that company wanted Swiss Re to insure or reinsure.