At the end of 2021, S&P Global, one of the world’s biggest credit ratings agencies, released its first ever report detailing the ESG (Environmental, Social, Governance) factors impacting insurers. ESG indicators are fast becoming important to insurance companies as industry investors take more notice of issues like climate change, employee engagement and the composition of boards.
“It’s the first time we’ve put the indicators out there,” said S&P credit analyst, Craig Bennett (pictured), the main author of the ESG Credit Indicator Report Card: Asia-Pacific Insurance.
ESG metrics are not usually mandatory for financial reporting. However, according to the US based CFA Institute, investors are increasingly applying these non-financial factors to identify where they want to put their money.
“These ESG factors, in a broad sense, have already had impacts on ratings and what we’re trying to do here is to say, how, and what area has been impactful and whether it’s positive or negative,” said Bennett.
He said S&P had captured ESG factors in their ratings discussions for several years, but never in a separate report.
“So, it’s effectively saying that, when we look at a [credit] rating today, how are these [ESG] factors affecting the ratings?” he explained.
Bennett said this is a new piece of information for the market.
“It’s really reaffirming people’s understanding of how we’ve captured these in the ratings,” he noted. “But going forward these will change as companies change and as our understanding of what the companies are doing changes.”
The ESG rating is based on a five-point scale for each of the three factors.
“One point is a positive attribute to a rating component, two is neutral, and then three is moderately negative,” he outlined. “Then it gets progressively worse from there. In terms of a four or five, that’s where we’ve seen a rating change because of this factor. And then five would also be a rating change and or other negative factors coming into play.”
Bennett said the negatively skewed system is thought to be a better way to bring out the factors that may drive impacts on credit ratings.
Big insurers with bases in Australia generally held steady. AIG, Allianz, Chubb, IAG and QBE all scored two points across all three ESG factors. This means ESG is having a neutral or no influence on their credit ratings. In this particular report, specific information explaining how a company’s rating was arrived at was only given for companies with a positive or negative rating.
S&P reported that more than 80% of its ESG ratings are neutral.
When ESG factors do have a negative influence on credit ratings, “Inherent and concentrated exposure to physical risks” is the most likely cause, according to the report. Only about 10% of insurance companies globally were rated with three points or worse. For governance, that number was only 3%.
Bennett said a top ESG score doesn’t necessarily imply a top credit rating.
“‘Yes’ and ‘no’,” he said. “I think if we step back and ask if a company looks for an E1, S1 or G1 as the gold standard, we’d say, not necessarily. It doesn’t mean that the ratings can be stronger because of that, it just means the rating has benefited because of actions in those areas.”
He said, theoretically, an insurance company could have an E1, S1, G1 and be rated BB.
“Similarly, you could have E4, S4, G4 and the company is rated in a single A category,” he explained. “So it’s not a predictor of the credit quality, it’s just an indication of factors that have been embedded within the rating.”
Bennett said it’s very complicated to explain what’s key for an insurance company seeking an ESG top score. However, he said one area that differentiates insurers from other sectors is their obligations with regards to governance.
“So, you may see when the report cards come out for other corporate sectors there are a lot more G1s, in that governance is positive in the rating,” he said. “With insurers though, we have an expectation around their ability to manage and set up governance structures at a high level.”
He said that’s partly due to the complexity of the insurance business, but also because insurers are often subject to more prudential oversight and regulation.
“So, we’re coming in at a higher level of expectation. And that’s the way that we look at it in our criteria,” he noted. “So, we’re saying we’re now going to capture risk management, their culture and oversight within governance and in that way these things could positively affect the rating.”
S&P didn’t rate a single insurance company with G1 for governance.
“But that’s not to say that going forward this won’t be something that we use as a differentiator,” he explained.