Report

Physical Climate Risk Factors and an Application to Measuring Insurers’ Climate Risk Exposure

Abstract: We construct a novel physical risk factor by forming a portfolio of REITs, long on those with properties more exposed to climate risk and short on those less exposed. Combined with a transition risk factor, we assess the climate risk exposure of P&C and life insurance companies in the U.S. Insurers can be exposed to climate-related physical risk through their operations and transition risk through their $12 trillion of financial asset holdings. We estimate insurers’ dynamic physical and transition climate beta, i.e. their stock return sensitivity to the physical and transition risk factors. Validating our approach, we find that insurers with larger exposures to risky states have a higher sensitivity to physical risk, while insurers holding more brown assets have a higher sensitivity to transition risk. Using the estimated betas, we calculate the expected capital shortfall of insurers under various climate stress scenarios.

Keywords: insurance; climate change; physical risk; transition risk;

JEL Classification: G1; G2; G3;

Bibliographic Information

Provider: Federal Reserve Bank of New York

Part of Series: Staff Reports

Publication Date: 2023-07-01

Number: 1066

Note: Revised November 2024. Previous title: “Measuring the Climate Risk Exposure of Insurers.”