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Storm surge calls for greater risk assessment

How prepared is the real estate sector to cope with extreme weather events, asks Roxana Isaiu, director, ESG and real estate at GRESB

Roxana Isaiu, director, ESG and real estate at GRESB

Hurricanes, earthquakes, floods, storms, cyclones, fires and torrential rain have been making headlines for months. They have left governments, insurers, investors, real estate companies and the broader public re-evaluating the human losses, financial impacts and strategies that can be implemented to minimize future damage.

At times like these, it almost feels inappropriate to focus on the impact on real estate values. Yet institutional investors have a fiduciary duty to do exactly that. Reuters estimates that Hurricane Harvey affected more than $23 billion of property and the World Health Organization estimates that the costs incurred by total hurricane damage increase by 6 percent every year. Moreover, flood losses in Europe are predicted to increase fivefold by 2050.

GRESB conducts an annual Real Estate Assessment of the sustainability performance of real estate portfolios and assets in public, private and direct sectors worldwide. In 2017, a record 850 property companies, REITs, funds and developers participated in the assessment, representing 77,000 assets and over $3.7 trillion in assets under management.  This large dataset is used by over 66 institutional and retail investors, collectively representing over $17 trillion in institutional capital, to manage ESG risks, capitalize on opportunities and engage with investment managers.  The data, which cover reporting entities from 62 countries, also allow us to draw insights into how the sector as a whole is responding to the risks of climate change.

The 2017 data show that 44 percent of real estate portfolios – funds, listed property companies, separate accounts, JVs and other investable structures – perform risk assessments related to climate change during the due diligence phase of new acquisitions, up only slightly from 41 percent in 2016. This is an underwhelming result and indicates that more than half of the group is unclear on their exposure to climate change risks.

On a more positive note, the GRESB analysis suggests that property companies are more diligent when it comes to assessing the actual, tangible consequences of climate change. For example, 79 percent of real estate portfolios perform risk assessments on natural hazards such as drought, hail storms, earthquakes and wildfire, and 78 percent assess the exposure of new acquisitions to flooding risks.

Once an acquisition is finalized and becomes part of the operational portfolio, flooding risks are assessed in 65 percent of portfolios, a 10 percent increase compared to 2016, and natural hazards exposure is tested in 66 percent portfolios, also up 10 percent on the previous year. As part of the communication to investors, the Real Estate Assessment asks reporting companies and funds to explain how the outcomes of these risk assessments are incorporated in the portfolio management strategy and how the overall risk is mitigated.

More needs to be done

With severe weather events growing in frequency, intensity and geographical dispersion, the real estate sector is becoming increasingly aware of the impact that climate change can have on property values. But much more needs to be done. The starting point is to expand the application of risk assessments to include both the tangible consequences of severe weather events as well as the more intangible impacts imposed by regulations and market responses that can affect costs and values over the longer term. Knowledge gaps also need to be filled to ensure that relevant staff members have the expertise to address climate change risk in their portfolios.

We may not all agree on the terminology or the science of climate change, but it is clear natural hazards are inevitable. It is also clear their impacts can be minimized. GRESB will continue working with institutional investors, property companies and fund managers to facilitate a good understanding of the impacts of severe weather events on portfolio risk profiles across the sector globally and how this understanding can be used to make better investment decisions.