In the first of four articles on the insurance sector and sustainable investment, we explore the targets insurers need to set on the road to net zero.
Our research tells us that when insurers set measurable environmental, social & governance (ESG) objectives, 96% of them relate to climate change. That was one of the key findings of our recent survey ‘Sustainable investment in European Insurance’, which saw us interview 60 insurers, covering 42% of European insurance assets under management.
For 58 of our 60 interviewees, dedicating a percentage of their portfolio to green assets was a key ESG objective. This is how many insurers plan to help finance the energy transition. Around half of the insurers interviewed also focus on broader considerations, such as seeking to reduce their portfolio’s carbon footprint relative to a benchmark. And for around a quarter of insurers (14/60), this has evolved further still, encompassing a commitment to net zero.
Figure 1: Climate-related measurable portfolio objectives
These findings are useful, but we must remember that each insurer is unique and will set different objectives that consider the specifics of their own firm and investment strategy.
Our research shows insurers are targeting a range of decarbonisation objectives, often with the ultimate goal of committing to net zero by 2050. For many, setting robust and meaningful interim targets provides a framework for achieving this most ambitious of objectives. Although only a quarter of our interviewees currently have a formal net-zero target, it was clear many others are building towards this goal.
Interim targets also provide a means for measuring progress and building in future re-assessment points. It’s important to take account of future climate-related developments – be it policy, data or technological developments. Things are changing fast and it’s hard to look too far ahead with great confidence.
The importance of setting realistic targets
Setting interim targets requires careful consideration to ensure they are robust, based on science and achievable. The Net Zero Asset Owners Alliance (NZAOA), which represents a group of asset owners committed to achieving net zero by 2050, has recently published guidance on how firms can approach developing and setting such targets. The emphasis may be on setting targets for achieving net zero by 2050, but the framework is of equal value to any insurer with a decarbonisation objective – whether it is aligned to net zero 2050 or not.
The NZAOA’s framework provides guidance for setting targets in four distinct areas:
- overall portfolio targets
- engagement targets
- sector-level targets
- financing transition targets.
Overall portfolio targets are perhaps the most common decarbonisation targets. The NZAOA’s work suggests that an emissions reduction of 16-29% is needed by 2025 to ensure a pathway to net zero by 2050 – informed by work from the Intergovernmental Panel on Climate Change (IPCC).
Just to look that little bit further ahead, using our climate-scenario analysis tool calibrated to the Bank of England NGFS 2050 Net Zero scenario, we estimate that around 40-50% emission reductions are required by 2030 to be on track to achieve net zero by 2050.
As we mention in our recent Investing for Net Zero article, behind the tools, figures and targets, it’s real-world decarbonisation that is key. One could easily decarbonise a portfolio by reducing or eliminating companies in carbon-intensive sectors such as steel, cement and power generation – your portfolio’s temperature-alignment score would certainly look impressive. We will still need these sectors in 2050, and they need investor capital to be able to innovate, decarbonise and transition. Therefore, we think the key is to invest in companies with ambitious and credible decarbonisation targets, rather than divesting. This will have a bigger impact on achieving net zero in the real world.
And that is why engagement, and setting engagement targets, is a powerful weapon in an asset owner’s (and their asset manager’s) arsenal. A continuous dialogue can help hold companies to the targets they have set themselves.
Financing transition targets can also help drive real-world impact. As we noted in our introduction, our research shows that allocating a proportion of the balance sheet to green investment is often the first decarbonisation step taken by insurers. This can be achieved through taking a forward-looking view and investing in climate solutions (assets and companies that help the world decarbonise) – from renewable infrastructure and low-carbon buildings to electric-vehicle manufacturers and energy-efficient technology providers.
What to consider when setting decarbonisation targets
Each insurer who commits to decarbonising their portfolio – setting interim progress targets in the process – will have a to consider a unique set of circumstances, detailed below.
- Different starting points – to what extent are climate considerations are already embedded?
- Varying investment approaches – will you, for example, use asset-management partners or an in-house team?
- Different levels of new business and growth – how will this affect the shape and size of your future asset base?
- Different liability characteristics – how will your liabilities affect your investments and the level of buying and selling that can take place?
- Different firm-level risk appetites – how will these affect the range of feasible asset actions available?
And in addition to your decarbonisation objectives, insurance asset managers still need to consider asset liability management, solvency efficiency and generating appropriate returns.
Although most insurers are joining a path with the same ultimate destination, each journey will likely look very different in terms of timeframe and actions, and will evolve over time. This highlights the importance of working with asset managers who are committed to helping you identify the journey that is right for your firm. And then going on that journey in partnership with you.
“There is an evident opportunity for asset managers to market ESG or impact products. However, there is a much wider opportunity to build a dialogue with us on new tools and analyses. It can reinforce some partnerships and weaken others.”
UK Life Insurer
Source: abrdn Insurance ESG Survey
We’ve been helping clients on their journey to setting interim targets and assessing how those targets can best be achieved. And we look forward to assisting many more.
In the next article in our series of four, we’ll be looking at decarbonisation trajectories in the years ahead.