Published on: July 11, 2024
For many investors, analyzing climate risks and opportunities is still primarily associated with equity investing, where companies are evaluated based on plans to reduce carbon emissions. However, climate-related assessments have made their way into other asset classes, such as commercial mortgages, since a property’s appeal can go well beyond the borrower’s ability to meet payments on a loan.
There is a growing consensus that the climate-risk radar is busier than ever. According to the Insurance Bureau of Canada, natural catastrophes and severe weather events led to $3.1B in insured damage in 2023. The year included droughts and high heat - leading to record wildfires across Canada -, an intense ice storm in Ontario and Quebec as well as flooding in Nova Scotia.
In light of this backdrop, investing in commercial mortgages – a strategy that seeks to generate stable, long-term returns - requires dedication, expertise, and attention to detail. Therefore, our property and borrower analysis considers qualitative and quantitative points (financial parameters, property management, location, etc.), but environmental and social factors as well.
Steps in our Process
We addressed this topic in our latest Sustainable Investing Report, where we summarized the risk management activities being conducted by our asset class teams to incorporate climate risks and opportunities. In our commercial mortgage activities specifically, we:
- require borrowers to engage an environmental engineering firm to complete an environmental site assessment (ESA) and identify potential contamination issues for each property;
- assess physical climate and natural hazard risk exposure of each individual property and the entire portfolio;
- work with a third-party insurance consultant to ensure that we have the appropriate protection for our investors against risks identified through additional climate due diligence;
- consider green building certifications, such as LEED and BOMA BEST;
- use London Stock Exchange Group’s (LSEG) World-Check database to conduct due diligence and consider reputational risk;
- aggregate and monitor individual property scores on a dashboard to identify, score, and monitor a property’s physical risk intensity, level, and portfolio impact.
Increasing our Understanding of Floods
In addition, the Commercial Mortgages team has been collaborating with Co-operators’ Climate Hazards and Advanced Risk Modelling (CHARM) team to better understand potential flood exposure given the increasing frequency and intensity of flood events due in part to climate change.
The modelling study assessed flood exposure for commercial properties, including fluvial flooding from rivers, coastal flooding, flood depths and frequency, presence of flood defences, property types and uses, and potential damages. Initial findings identified 19 properties in Quebec and British Columbia with medium to high flood exposure, and four properties with a damage function exceeding 3%, indicating a potential total loss every thirty years. This preliminary analysis marked a step forward in understanding the financial impacts associated with physical climate risks in our portfolio with more research to follow.
Given their impact on the world we live in, climate risks are now an important part of investment analysis. Developing comprehensive methods to assess them requires building and sharing knowledge, as well as a humble understanding that there is much still to be learned. However, as asset managers, we are committed to work in the pursuit of a higher level of expertise to better manage climate risk and opportunities.
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