On November 3, 2021, the New York Department of Financial Services (DFS) announced the creation of a new Climate Risk Division (the Division) that is tasked with integrating climate risks into DFS’s supervision of regulated entities, supporting the industry’s growth in managing climate risks, coordinating with international, national, and state regulators, developing internal capacity on climate-related financial risks, supporting the capacity-building of peer regulators on climate-related supervision, and ensuring fair access to financial services. The Division will be led by Dr. Yue (Nina) Chen, DFS’s Director of Sustainability and Climate Initiatives, who was appointed Executive Deputy Superintendent.
With the announcement of this new division, DFS continues its push to be at the forefront of climate change-related financial regulation. DFS was one of the first states to participate in the NAIC Climate Risk Disclosure Survey (preceded only by California). Over the last several years, DFS has issued a number of industry letters and hosted webinars on the financial risks presented by climate change. Most recently, in March 2021, DFS issued for public comment proposed guidance for New York domestic insurers on managing financial risks from climate change (the Proposed Guidance). DFS describes the Proposed Guidance as the first climate-related guidance issued by a US financial regulator, and notes that it is informed by dialogue with industry and modeled on publications issued by international regulators and networks.
One of the Division’s first tasks is expected to be issuing a final form of the Proposed Guidance, and beginning enforcement of its expectations. New York domestic insurers can expect DFS to have an increased focus on climate change-related issues during examinations and during its review of filings, such as Own Risk and Solvency Assessment (ORSA) filings, enterprise risk reports and Corporate Governance Annual Disclosure (CGAD) filings.
At a high level, the Proposed Guidance lays out DFS’s expectation that every New York domestic insurer should:
- Integrate the consideration of climate risks into its governance structure, including that the board of directors have responsibility for managing climate risks, which should be reflected in the company’s risk appetite and organizational structure.
- This includes the adoption by the board of a written risk policy and the designation of a board member or committee, as well as a member of senior management, as responsible for the insurer’s assessment and management of climate risks. This designation should occur even if an insurer determines that climate risks are not material to its business.
- Consider the impact of climate-related factors on its business environment in the short, medium and long-term when making strategic and business decisions.
- This includes documenting how its analysis is considered in its strategy-setting process, risk appetite framework and risk management and compliance processes.
- Incorporate climate risks into its existing financial risk management, including by analyzing the impact of climate risks on existing risk factors (including credit, legal, liquidity, market, operational, pricing and underwriting, reputational and strategic risks), and considering climate risks in the company’s ORSA.
- Expand current scenario analysis practices to consider physical risks (i.e., risk relating to acute weather events like hurricanes and chronic shifts in weather patterns like droughts) and transition risks (i.e., risks relating to society’s transition to a low-carbon economy), multiple carbon emissions and temperature pathways, the fact that climate risks may not be reflected in historical data, and short, medium and long-time horizons. Scenario analyses should inform business strategies and risk assessment and identification.
- Publicly disclose its climate risks, including how the risks are integrated into its corporate governance and risk management, and the processes used to assess whether these risks are considered material. Each insurer should consider the Task Force on Climate-related Financial Disclosures (TCFD) framework and other initiatives when developing its disclosure approaches.
The Proposed Guidance acknowledges that each insurer’s identified actions to mitigate climate risks should be proportionate to the nature, scale and complexity of the insurer’s businesses, but provides that all insurers, regardless of size, are expected to analyze their climate risks.
As part of this analysis, the Proposed Guidance indicates that each insurer should assess the materiality of climate risks to its business. DFS expects that over the next two to three years, insurers should begin specifying key considerations that inform such assessment. The Proposed Guidance states that an insurer may reference the NAIC Financial Condition Examiners Handbook’s materiality benchmarks in its assessment (e.g., 5% of surplus or one-half of 1% of total assets), and that, after a thorough assessment, some insurers may determine that climate risks are not material to their business. However, the Proposed Guidance cautions that certain risks may be material regardless of numerical impact, and generally frames climate change as one of the most critical risk management issues of our generation, describing climate risks as wide-ranging, material and unprecedented. If an insurer deems climate risks to be immaterial, DFS expects the insurer to disclose this assessment, along with its qualitative and quantitative basis.
DFS also expects that, over time, an insurer’s analysis of climate risks and materiality assessments should shift from a qualitative approach, using simple models and a small set of risk factors, to a quantitative approach, relying on sophisticated models and a broader set of risk factors.
Industry comments on the Proposed Guidance were largely positive. Commenters praised the Proposed Guidance for acknowledging the broad range of complexity, nature of business, and sophistication among insurers, and that there cannot be a “one-size fits all” approach to mitigating climate risk. On the other hand, industry comments also noted the difficulty insurers face in obtaining reliable data about the future risks of climate change and how society will respond. For example, political differences in how (and when) to move to a low-carbon economy present transition risks for insurers, who face unpredictable public sentiment and societal preferences. This uncertainty makes it difficult for insurers to make coverage commitments far into the future, as envisioned by the Proposed Guidance.
DFS is expected to issue a final form of the Proposed Guidance that reflects industry feedback this month.
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