Assessing climate risk: How and why you should create your own view

As climate change activism is taking new forms, and new impassioned champions from younger generations are emerging to influence policy and decision making, large corporations are coming under increasing pressure from stakeholders to address climate risks. But what is really meant by climate risk? It’s a broad term that can mean different things to different people, so it can be a tricky risk to quantify.

Discerning a common approach to a complex challenge

Finding common ground for constructive discourse and actionable evidence-based recommendations is one of the key challenges in addressing risks associated with a changing climate. Since the Paris Agreement in 2015 set targets for governments around the world to reduce carbon dioxide emissions to limit global warming to 1.5⁰ Celsius above pre-industrial levels (ideally), a number of frameworks and guides have emerged — from the likes of the Prudential Regulation Authority, the Task Force for Climate-related Financial Disclosures, ClimateWise, and the Swiss National Centre for Climate Service.

A further factor creating uncertainty is transition risk, that is the risks (and opportunities) associated with the shift to a low or net-zero carbon economy, be they somewhat definable, such as the costs of changing infrastructure to electricity and renewable energy, or more indeterminable. A fast transition, where policy and industry regulations drive carbon targets that require great and rapid change, would be very different to a world of slower transition. Indeed, a fast transition could almost act as a “mitigation” strategy by reducing the need to spend on adaptation measures in the longer term.

By contrast, a slow transition would require much greater efforts to manage disaster resilience and recovery as weather patterns change faster than ecosystems and communities adapt. Moreover, in the long term, carbon levels would be even higher, leading to costlier mitigation strategies if the aim is to get back to pre-industrial levels.

And beyond finding agreement on a common set of metrics and transition methodologies, everyone has a personal set of values that will influence how they feel about and act on climate change. This applies in the business world too. Partisan political stances around the world make this split between action and inaction even clearer.

This highlights how data-driven approaches offer an objective evidence-based toolkit to clear the fog and any inertia around climate risk and light the way for companies to determine the least risky course of action.

One example of how academic research can support the analysis of physical climate risk is attribution science. This field of research measures the impacts of climate change that have already occurred. For example, academic research suggests Hurricane Sandy was made worse by the heightened storm surge associated with the sea level rise caused by roughly a 1⁰C global temperature rise since pre-industrial times. Such relationships can be extrapolated to the future, enabling extreme weather events to form the basis for a common understanding of how to measure potential business impacts.

Preparing for climate risk regulation

Such understanding will become more important as we see a move from current voluntary schemes, such as those already mentioned, to climate-related risks becoming a more central part of regulation and rating agency assessments.

With governments broadly in agreement about carbon targets, some corporates are already starting to take the first steps to reduce the risks from both the physical effects of climate change and the risk involved with transitioning to a low/zero carbon economy, including the possibility that liability risk may be reduced if changes precede regulations.

Necessity is the mother of invention

Efforts can be helped by a proliferation of new climate services from governments, including datasets and tools (e.g. the UKCP18 or Copernicus Climate Change Service), and consultancy companies offering new solutions. Willis Towers Watson itself has a long history of assessing weather and climate risk based on latest scientific research through the Willis Research Network, and applying industry and academic catastrophe models to form a view of risk.

Catastrophe models take past information about a specific hazard (hurricanes, droughts, floods, earthquakes, etc) and have helped the insurance industry become more accurate in its communication of risk and improve pricing and reinsurance structuring. Longer-term climate change presents new challenges though since these tools rely on historical data for the most part and so will not necessarily represent the compounding effect of climate change. However, Willis Research Network and experts across Willis Towers Watson’s analytical teams are developing ways to adapt the outputs of catastrophe models, as well as new methodologies and tools to create realistic disaster scenarios that are indicative of future climate change scenarios.

How to start addressing climate risk?

For any company focussed on developing a climate risk assessment, the first step is to understand impacts in the past by gathering as much information as possible on sensitivity to weather and climate impacts. This can help define the materiality of their exposure to climate risks and inform different business strategies in relation to how they may be affected by future climate scenarios and the risks associated with each. This then provides a framework for reporting on climate risks as they evolve and will help a company react to changes in regulations and maintain a level of resilience appropriate to its risk appetite.

Those that have a good understanding of the locations, values and vulnerabilities of their portfolios of assets, and some of the critical points of failure of their supply chains, will have a head start on any discussion around climate risks both in current climate and in whatever future world we make for ourselves in the coming decades.

As appropriate regulation of industry, galvanized by growing public pressure, begins to drive the movement towards a better assessment of climate risk, there is a competitive advantage to be gained by riding the crest of the wave, rather than waiting to be pushed. The application of the latest data and science can not only warn of new risks but also highlight the upsides of taking action.