As the physical risks associated with climate rapidly shift, borrowers, lenders and investors need to better understand their exposure. Larry Lawrence, head of sustainable finance group, ICE Climate explains how market participants can use climate data to manage their risk profile in a fast-changing world.
KEY POINTS
- Climate risk is driving increases in home insurance premiums of up to 90% in some areas of the United States – in others, insurance is not available
- Extreme weather is putting pressure on the property tax base of many municipalities: taxes increased 18% across the U.S. between 2019 and 2023
- Research suggests climate adaptation investment could propel a 100% increase in annual municipal bond issuance by the mid-2030s
The DESK (TD): Larry, how do you see debt products being directly impacted by climate events?
Larry Lawrence (LL): Ninety percent of mortgages in the U.S. are 30-year fixed rate. Everyone expects a fixed mortgage payment every month, and after a 30-year period, you’ve repaid the mortgage, and you own your home. Today, however, we’re seeing significant fluctuations in variable costs, and a lot of people are not paying attention to those. There are three components to that variable cost. The first is insurance costs. A recent New York Times article found that insurers lost money in 18 states in the U.S. in 2023, with climate risk impacts such as flood damage becoming more frequent. Insurers, are recalibrating their exposure by raising premiums, limiting coverage and exiting high-risk markets altogether.
Premiums are up 52% on average since 2019 in high-risk areas like New Orleans. In some areas they’ve risen as much as 90% and in others you can’t even find insurance for your home. We’re starting to see this first component of variable costs already impacting affordability, and it might impact default risk over time.
The second component of variable cost is property taxes. Between 2019 and 2023 property taxes rose 18% in the U.S. as a whole, but in the northeast some homeowners are spending 35% of their mortgage payment on taxes.
The third component is the cost of utilities, also driven by climate risk. The cost of heating and cooling the home is rising. In the northeast U.S., for example, bills in the winter can jump as much as $400 a month because of the extreme cold and home heating needs.
As insurance premium costs increase, affordability is diminishing, deterring future homeowners. Asset prices in affected areas are being devalued because of flood risks and home values in those areas may decline as a result. These are all issues that we’re helping people think about, not just what the risk is from climate, but how to translate these risks into considerations for lenders, investors, and local governments alike.
TD: How do think about climate risk related to municipal bonds?
LL: We have a robust offering of reference data and pricing data for munis before we even get to climate. Some of the world’s largest investors rely on our climate risk and social impact data for the municipal asset class. State and local governments face increasing climate-related risks. We’ve worked with firms like Municipal Market Analytics, who published research this year that says the need for climate adaptation investment could lead to a 100% increase in annual municipal bond issuance by the mid-2030s. If there is an asset class that is vulnerable to climate risk, it is munis, which rely on income from a tax base paid by the people who decide to live in those communities. People may move because of the increase in extreme weather events as well as the increasing discomfort and inconvenience associated with extreme weather. That could impact a municipality’s ability to generate revenue. We are thinking about the intersection of climate risk and the socio-economic characteristics of communities. We’re focused on helping investors and municipalities understand how investors are evaluating climate and non-traditional alternative risks.
TD: What technical access do you use?
LL: We leverage our geospatial platforms to map and define a municipal boundary – and they are complicated. They can change over time, and there are all sorts of different kinds of municipal issuers and obligors that we cover, everything from school districts to utilities to turnpike authorities. Our robust and comprehensive library of municipal boundaries gives us unique insights into the market. We can help you understand how much risk exposure your municipal-based fund has to flood, wildfire, hurricane, and we can distil that risk into a zero to five score, to make it extremely useful. We can also scope emissions for munis based on the economic activity we see within the boundary of a municipal entity or obligor. If you’re an investor and you need to understand carbon footprints, we can offer analysis around impact for municipals, real estate and mortgage-backed securities, and we look at corporate debt as well.
TD: Climate-related regulations affect different institutions in different ways, how do you provide insights for those firms that are affected?
LL: There is physical risk and transition risk for corporate and sovereign debt. We build out Sustainable Finance Disclosure Regulation (SFDR) solutions to help investors understand their portfolio alignment to some of these different regulatory needs. The regulations that will drive the majority of discussion over the coming years are going to be non-U.S. regulations: the EU, Japan, APAC and the U.K. will be predominant.
A consistent challenge in every case, is how to manage climate risk impact and emissions based on where you allocate capital, and how thoughtful you can be regarding exposure to physical risks.
We want to speak to CIOs looking at a multi-asset-class universe, for whom regulation is going to drive a lot of focus in the area. We’re partnering with clients to help them with basic regulatory requirements. One example is a new ‘names rule’ solution: Across the U.K., EU, and less so in the U.S., regulators are asking if the holdings in a fund or portfolio are aligned with how a fund is marketed and named. We have a robust regulatory product team and they’re leading the charge to launch a name tool solution, which is basically an engine that assesses fund holdings and runs checks to tell whether or not you’re aligned or misaligned with the name rules that are out there. This is becoming increasingly relevant for clients.
TD: What’s the scale of your effort and how will the results help market participants, investors, and issuers?
LL: The challenge of getting more data and transparency around exposure to the increasing occurrence of extreme weather events is going to be ever present in the next few years. We introduced physical climate risk scores and physical risk data tracking for 20,000 public companies globally. There are over one billion rooftops worldwide that we’re able to look at, to get data across sovereigns, corporates, and global real estate. We have a consistent approach so if you’re trying to measure physical risks for corporates and sovereigns, not to mention MBS and real estate, we can help you. Large global clients have a global footprint, which demands that consistency. Our strategic alliance with Dun & Bradstreet has taken us into the private company space. For the first time we will be able to cover millions of private companies around the world and give asset owners an idea of what their exposure and risk is to these private enterprises.
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