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The Actuary The magazine of the Institute & Faculty of Actuaries

Environment: Feeling the heat

On 26 November 2007, some 150 people attended a sessional meeting on climate change. There was a significant faction from non-actuarial disciplines, including climate scientists, representatives from interested parties and pension fund trustees. The large majority, however, was comprised of actuaries who were equally split between those working in pensions, asset management, life and general insurance. It is wonderful news that life and pensions actuaries are starting to take this subject seriously and we believe it could be more significant for them than for general insurers.

Prior to the meeting, a questionnaire had been sent to members of the Profession which generated over 1,100 responses, indicating a strong interest in the subject. All percentages in this article relate to the questionnaire unless explicitly stated. Full details can be found on the actuaries’ climate change wiki at http://climatechange.pbwiki.com/questionnaire. The questionnaire consisted of 11 multiple choice questions, the first of which asked respondents whether they thought that climate change would affect them in their career. A clear majority of 57% said yes.

On 13 September 2007, the Prince of Wales launched the ’ClimateWise’ principles (www.climatewise.org.uk ), a set of statements signed by over 40 major stakeholders within the insurance industry. When asked whether they agreed with these principles, over 94% of members answered that they needed more information. It appears that this new initiative has not yet grabbed the attention of life and general insurance actuaries – we hope that will change. One of the key promises of ClimateWise is to encourage policyholders to adapt to climate change; 66% of respondents felt that the general insurance industry should be more active in promoting risk prevention amongst policyholders. 85% of respondents, however, had not taken climate impacts into consideration in their models.

Degrees of change
Professor Lenny Smith from the London School of Economics opened the meeting with an actuary’s guide to the recent Intergovernmental Panel on Climate Change (IPCC) report. He noted that serious climate scientists weren’t debating whether climate change was happening any more, but by how much. Smith also suggested that while climate models concur on the urgency of the problem, they do not agree on the fine details.

Smith believes that the models accurately conclude that climate change is one of the most urgent and serious problems facing humanity. Human activity is the predominant cause, and climate scientists “agree completely on the basic framework” of their science. He stressed that we must not be overconfident in their model’s granularity. This doesn’t mean we should delay action but that our actions should allow for flexibility in case the future doesn’t turn out as planned. Some climate features are predictable and some inherently are not; he urged for more research to clarify where the more certain areas are.

As part of the pre-meeting questionnaire, members were asked whether they felt that current insurance products were sufficiently robust to allow for an uncertain future. Responses were mixed, with 36% believing the future is no more uncertain than it used to be, but 56% felt that there are plausible scenarios that could lead to large losses. One speaker from the audience noted that there were other major problems in addition to climate change, not least the rapidly increasing population of the planet and questions regarding its long-term sustainability. We’d agree that no climate change mitigation and adaptation decision should be taken without considering these other issues and that together they are likely to adversely affect the global economy.

Slow burn
Garrie Lette from Mercer expressed the view that the large majority of pension fund trustees is doing nothing about climate change. He said the issue was felt by many to be too complex and they are already too busy. He noted, however, that a small but growing number was taking this issue very seriously.

Members were asked whether they felt that climate change would impact mortality rates: 62% thought there would be a small but insignificant effect but 35% thought it would be significant and require further investigation. It is our understanding that, in the UK, the potential increases in mortality due to summer heatwaves will be dwarfed by reductions in mortality due to warmer winters. A key point is that people can, and will, adapt to increased heat. This is a clear illustration of how many climate change impacts are non-linear and set in one direction. At the very least, we would suggest that actuaries active in this field give consideration to this risk.

On the question of whether pension funds should engage with the companies they invest in (namely by using their vote to encourage change rather than taking a passive stance), over 27% felt this should be standard practice with a further 45% agreeing it should be done if the trustees wish to. 10% felt it might be contrary to trustees’ fiduciary duties.

This is despite the Freshfields report A legal framework for the integration of environmental, social and governance issues into institutional investment (2005) which established that this is not the case. This is surely an area which the actuarial profession should be aware of and perhaps play a leading role.

Graham Fulcher from global insurer ACE, speaking from a general insurance perspective, cautioned that our companies’ reputations may be damaged if we withdraw cover as risk levels rise. We may want to start the process of communication now so that our policyholders are clear where our promises begin and end. Over 50% felt that general insurance models should be modified to allow for changing risk levels and an additional 14% thought it was a unique risk that current models do not cope with at present. Fulcher pointed out that many actuarial societies have mottos with the word ‘future’ in them and suggested that the future unequivocally includes climate change.

We believe this means that actuaries should factor this into their advice, lest it be deemed inadequate in the future. Over 50% of questionnaire respondents felt that, as professionals, we should show more leadership in encouraging our clients to consider the impacts of climate change. Finally, Fulcher stressed that we should not work in isolation, that actuaries are not climate experts and should trust others who are. He noted that when he started looking into this issue he was slightly sceptical, but once he looked at the facts he quickly changed his mind.

Nick Robbin told us we were a part way through a 60-year transformation to a low carbon economy. As such, we should expect massive investment flows (into renewable energies, for example), some positive, some negative, arising due to the mitigation effort (reduction of CO2). We can also expect significant capital flows due to adaptation efforts.

47% of questionnaire respondents thought that certain investment assets should be treated with caution in future. 19% thought climate change represented an overall threat to investment portfolios. One senior actuary responding to the speakers noted that use of carbon was now deeply ingrained in our society. He gave the example that around 40 years ago only two people living within his village worked outside its boundaries and now only two residents work inside it. We shouldn’t give up, but we must accept that some climate change is going to happen regardless of our actions and begin thinking about adaptation in earnest. The creativity of the actuarial profession must surely be able to help here?

It was very interesting to us that many of the responses to our questionnaire were along the lines of ‘the profession should’ – surely we, the members, are the profession? Most of the innovation, research, communication and change will come from individuals and their firms, working together. If you are inspired to act after reading this, please do – don’t wait to be asked, or for ‘the profession’ to do it for you.

Time for action
As organisers, we closed the meeting by urging the profession to consider the following:
>> To become a carbon-neutral organisation, with all conferences to include the cost of offsetting their carbon footprint. We were delighted to hear that GIRO has decided to do this from this year onwards, and hope that others will follow suit
>> To encourage BAS to produce guidance for actuaries on the appropriate response to climate change. The future includes climate change and we need to make financial sense of it. We fear this leaves the Profession open to legal action and guidance will help members defend their actions. Society has a wonderful gift of hindsight that has been used against our profession before – let us draw lines in the sand now to avoid this in future.
>> To take a public position on climate change, not least because we claim to be financial risk managers and our silence as a profession is strange.

On reflection, we would add a fourth point: that climate change should be included as part of the education syllabus. Not as a major subject but perhaps as part of the modelling exam. This is such an important subject that a basic understanding of the issues for all actuaries is crucial going forward, simply to maintain our credibility of making financial sense of a (hotter) future.

Trevor Maynard is Manager of Emerging Risks at Lloyd’s of London. Nick Silver is actuary to Parhelion Capital Limited.

Further information
For further information visit http://climatechange.pbwiki.com/questionnaire, or view and edit the section on climate change at www.ActuarialWiki.org
The July 2008 edition of The Actuary will carry a special editorial theme on the environment. If you would like to submit an article for this issue, please send a proposed synopsis to features@the-actuary.org.uk