The second part of our adaptation feature highlights how common risks are yielding innovative solutions based on multi-stakeholder partnership.
Like other systemic risks that threaten the market beta on which diversified portfolios depend, the physical impacts of climate change cannot be tackled by companies and investors alone.
“Asset owners’ traditional levers – like capital allocation and stewardship – have a role to play, but they can only take you so far. They can help you see the problem. They could probably help you price the problem. But what they can’t do is actually help solve the problem,” says Leah Ramoutar, Director of Environmental Sustainability at insurance and investment group Aviva.
The experience of UK-based public pension scheme Brunel Pension Partnership underlines both the value and limits of stewardship. A multi-year engagement with global food and beverage producers and retailers found leading firms under-reporting their actions, while others failed to adopt a systematic or holistic approach to physical climate impacts.
Searching for common ground
Brunel noted huge differences in coverage across supply chains and operations, in data and methodologies used to assess risks or impacts, and in the terminology that described responses.
While French food producer Danone had implemented decision-making structures on climate and nature connecting the local to the board level, governance was generally lacking. Work on water, soil and biodiversity was disconnected, with few companies providing clarity on their activities around regenerative agriculture.
Both US and Asian firms typically took an operational approach, showing little evidence of strategic leadership, with the former assuming ongoing access to insurance and the latter in need of capacity building.
Faith Ward, Brunel’s Chief Responsible Investment Officer, was surprised how unprepared firms were to explain their adaptation strategies in a sector whose raw materials and processes are highly exposed to both acute and chronic physical risks.
“Two or three European firms were taking a strategic, integrated approach,” says Ward. “We weren’t really engaging for them to change their practices, more to elevate and communicate what good looks like. Not enough investors are asking the right questions, and as such the issue is not being seen at the board level.”
According to Riaan Potgieter, Investment Director at investment solutions provider StepStone Group, increasing pressure from asset owners will encourage portfolio companies to join the dots between their top-down and bottom-up perspectives.
“Whether or not management teams consciously recognise this as adjusting to climate risk, it’s important for stakeholders to know the processes are in place to analyse, deal with, and report on this risk,” he says.
“Investors are starting to set expectations and say: ‘Look, we’re going to ask more challenging questions, because even if you don’t have all the answers at this point, I need to know that you understand the problem’.”
Despite stewardship’s limitations, Ramoutar confirms Aviva continues to ask boards to integrate adaptation across business lines as part of credible transition planning.
At this stage, however, meaningful dialogue on adaptation is the exception rather than the rule, suggests Udo Riese, Global Head of Sustainable Investment at Allianz Investment Management (Allianz IM).
“Stewardship on adaptation is ten years behind mitigation. Mitigation is a standard topic in all corporate dialogue and adaptation is moving in the same direction. Its importance is rising, but the tools and data are not there yet,” he says.
“The methodologies of data providers on physical risks deliver very different results, so we’re at an early stage here.”
Market signals
Good practice in addressing financially material impacts of physical climate hazards exist in most industries. UK water supplier United Utilities has developed a Catchment Systems Thinking approach to preserving long-term provision that relies on partnerships across multiple sectors.
In extremis, however, portfolio companies that fail to protect current assets and future revenues against a near and present danger will risk divestment by investors.
Already, there are signs that insufficient attention to adaptation is influencing investment decisions, with asset owners exploring new asset classes, as well as tempering their appetite for potentially vulnerable investments.
“Investors can send a strong market signal by investing in companies with more resilient business models, and increasing exposure to resilient infrastructure and nature-based solutions,” says Aviva’s Ramoutar.
Investor concerns are starting to feed through to capital costs. Last October, data provider Bloomberg reported that firms with higher physical risk exposure face a premium of at least 22 basis points in their weighted average cost of capital. Firms in sectors such as materials and utilities faced even steeper costs.
“If markets have some awareness, it’s reasonable to assume those corporations are also thinking about the issue. But it won’t necessarily make its way into financial reporting because there’s no clear standard for it,” says Edo Schets, Head of Climate, Nature and Sustainability Regulation Solutions at data provider Bloomberg.
Under a three-stage framework developed by StepStone for assessing physical risks across non-listed portfolios, Brunel is actively integrating adaptation into investment due diligence. According to the scheme’s own assessments, its portfolio is most exposed to drought, extreme heat and water stress.
Asset owners need to be prepared to walk away from potential investments if they’re not sufficiently robust, suggests Ward. “This could include reducing ticket sizes with the caveat of reopening in future on condition of building out adaptation-related competency and capabilities.”
General partners that fail to account for physical risks are vulnerable to being supplanted by the increasing number that are, including those touting investments in nature-based protection, such as mangroves that bolster sea defences, or afforestation projects that soak up excessive rainfall, preventing pluvial flooding.
“It’s certainly had an impact on our approach to increasing asset allocation to natural capital investments, influencing our confidence to proceed with those allocations, and particular opportunities,” says Ward.
Natural hedges
Natural capital is expanding rapidly as an asset class, with investments in sustainable agriculture and forestry being augmented by newer ‘payment for ecosystem services’ models, which bring together corporate ‘off-takers’ for outcomes such as cleaner water or reduced flood risk with financial institutions and landowners.
UK-based asset manager Rebalance Earth has assembled £50 million of public and private capital to fund landscape recovery in the catchment area of the Evenlode River in the English county of Oxford, which provides valuable maintenance cost savings to infrastructure operators like Network Rail and power utility SSE.
“Sometimes it’s worth paying for downside protection, because it gives you a smoother outcome at a portfolio level,” says Rob Gardner, CEO of Rebalance Earth. “Unlike equity options, where you pay out premiums for downside protection, with natural capital, you get portfolio resilience while also making money on the investment. It’s the hedge that you actually get paid to hold.”
Such innovations are even more appealing in the absence of opportunities to invest in the adaptation projects of listed firms. These measures are typically financed by companies on a project-by-project or location-by-location basis, notes Allianz IM’s Riese, while investors usually finance the balance sheet.
“These are too small to be taken to the capital markets individually at the moment, but they could in time be bundled to reach a size and volume of interest for large asset owners,” he says.
“The most promising avenue for investors is making clear to sovereigns that national adaptation plans (NAPs) are necessary, similar to the details we’re now seeing on mitigation in the plans to implement nationally determined contributions (NDCs).”
Investors have long called for NDCs to be investible, by incorporating decarbonisation targets into sovereign green bond frameworks. To make NAPs investible, governments need to bolster their strategies for handling physical risks, with the UK’s Climate Change Committee recently having described the country’s NAP3 as “inadequate”.
For Bloomberg’s Schets the lack of a common language in the financial markets for adaptation finance remains a key barrier.
“Although there are proposals for frameworks, there isn’t a well-defined typology around how to categorise adaptation and resilience-building activities. This lack of standardisation presents many challenges, including in green bonds and impact and allocation reporting,” he says.
“As such, it can be difficult to compare across and understand what different companies or countries are doing.”
Shared risks and incentives
While the traditional tools available to asset owners can offset physical risks, tackling them head on requires new thinking, based on finding common cause with other parties.
Coordination and collaboration on adaptation are growing due to shared risks, vulnerabilities and incentives across the public and private realms. There are both sectoral and geographic elements to these emerging initiatives.
In the finance sector, different types of institution have a mutual interest in encouraging corporates to invest in adaptation, notes Aviva’s Ramoutar. The firm that can minimise damage and business disruption costs from the physical impacts of climate risk should be able to reduce its insurance and borrowing costs, making it less of a risk to investors, as well as insurers and lenders.
“It should be a virtuous circle,” she says.
Regulatory pressures are certainly pushing banks and insurers to take a more proactive approach to client exposures. Binding from June 2026, the UK Prudential Regulatory Authority’s (PRA) latest supervisory statement on climate risk marks a significant shift in expectations.
Key measures – which have parallels in other major jurisdictions – include explicit integration of climate risk into risk registers and governance frameworks, increased use of climate scenario analysis to identify risks, and board-level remediation plans. Climate risks “present unique challenges and require a strategic management approach”, the PRA notes.
Regulation notwithstanding, the sector has many incentives to reduce client vulnerabilities. A recent policy brief from the University of Cambridge’s Institute for Sustainability Leadership (CISL) highlighted growing evidence of insurability as the ‘canary in the coalmine’ of climate risk.
Effective asset protection requires insurance relationships to go beyond the transactional, with all parties understanding the trade-offs and dynamics of risk transfer over time.
“In a lot of cases, firms are looking to deploy resilience where risk is already high. So, it’s going to take quite a lot to get insurers comfortable with how that’s measured, from an underwriting perspective,” says Kimberly Ong, Director, Client Solutions & Engagement Lead at insurance group Howden’s climate risk and resilience advisory unit.
Insurers have an appetite to develop the strategic, long-term relationships in which they can provide resilience incentives, Ong insists, but time horizons need to be aligned. Typically, policies are agreed on a one- or two-year basis, but the benefit to the insurer – in terms of reduction in claims – may not materialise for another 5-10 years.
“Insurers want to understand clients from a holistic basis, rather than looking at on a single risk perspective,” she adds, noting that closer relationships can support continued supply in a capacity crunch.
The close and complex links between insurability and investability are highlighted in a case study focused on protecting solar and wind energy assets from damage via heat stress and hailstorms across three Italian sites, included in the Institutional Investors Group on Climate Change’s update to its Physical Risk Appraisal Methodology (PCRAM 2.0).
The effectiveness of investor efforts to enhance value by balancing resilience measures against residual risk transfer depends in part on awareness of changes “in insurance metrics for pricing across different time horizons”. Further, the case study outlines that the value of resilience investments to the investor – including lower insurance costs and better credit terms – only manifests with reference to risk-adjusted returns over the longer term, rather than absolute returns.
Coalitions of the willing
CISL – which is developing an Insurability Readiness Matrix – says insurability can be improved by a combination of transition planning, improved modelling and data availability, risk-aware development plans and regulations, dynamic diagnostics and resilient infrastructure.
These elements are typically evident in the collaborative solutions involving insurers and investors that seek to tackle physical climate risks before they reach the assets in which they have a shared interest.
StepStone’s Potgieter recommends the wider use of risk registers to help attention on the risks that need engagement with other stakeholders, potentially including policymakers or other investors. “There are some risks you cannot mitigate by yourself. Sometimes it needs to be done in partnership,” he says.
At Howden, Ong notes the complexities of identifying coalitions for action on physical risks. “For some areas of real estate, like office buildings, there are very limited engineered solutions that can be undertaken for things like flood risks; it’s more about city-wide measures and solutions,” she says.
“We are seeing asset owners engage more with the local authorities, but you need a good proportion of assets within its borders to really get traction, which can be a with diversified in their portfolios.”
Launched last November, the FloodAction Coalition (FAC) is designed to channel private capital to nature-based flood defences in the UK. It aims to build climate resilience via natural flood management solutions that rely on restoration of natural habitats to reduce flood and drought risk, cut pollution, store carbon, and revitalise ecosystems, with benefits for communities and the economy.
Chaired by Aviva, it seeks to bring together insurers, landowners, asset owners, and public sector authorities to mobilise a £1 billion of investment by 2028, with participants including UBS, Rebalance Earth, Howden, National Highways and the National Trust.
The initiative has parallels with Rebalance Earth’s Evenlode project in that it seeks to share incentives and interests across multiple parties, with the aim of creating the UK’s “first adaptation investment pipeline”.
The UK government welcomed FAC’s launch, but Ramoutar would like to see more public funding, matching amounts raised from private sources, as part of wider measures to help make nature-based and resilient investments investable at scale.
“There’s a big opportunity to leverage public spending to de-risk private investment,” she says, noting the ability of blended finance models to crowd in institutional investment, alongside resilience guarantee schemes. Mobilisation of public and private finance for local adaptation projects is being coordinated across Europe by bodies including the European Investment Bank and Horizon Europe.
Policy levers
Calls by FAC members on the UK government to de-risk private investment in natural flood management underline the role of systemic stewardship – advocacy and engagement with agencies across the public sector – as a crucial tool to address the impacts on asset owner portfolios of physical climate impacts.
In its ‘Building Future Communities’ 2025 report, Aviva highlighted six priorities for government action on climate resilience, including stronger planning rules to prevent unprotected development on flood zones, measures to promote investment and innovation to protect homes against heat risk, and standardised use of sustainable urban drainage systems.
According to Ramoutar, the firm has also been advocating for stronger targets and more streamlined delivery plans in the UK’s next NAP, as well as a “more joined-up coordination” across government departments and agencies.
“We need long-term adaptation targets and plans. We need sector-specific pathways,” she says, noting that the latter call aligns with Aviva’s corporate engagements on adaptation.
There are many policy levers that governments can pull to create an enabling environment for increased investment in resilience, but asset owners’ advocacy efforts continue to include calls for greater disclosure, specifically transition plans that cover adaptation to – as well as mitigation of – climate risks.
Aviva were among several respondents to a recent UK consultation on mandatory transition planning supporting holistic integration of adaptation, resilience, nature and just transition considerations into transition plan requirements.
The UK Sustainable Investment and Finance Association recommended the government introduce rules aligned with Transition Pathway Taskforce’s provisions on physical climate risks and adaptation.
Some have also warned the government not to repeat past mistakes, noting that reporting requirements based on the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD) failed to place the transition to a net zero and climate-resilient economy at the heart of corporate strategy.
Transition plans should be seen as strategic tools that trigger action, insists Irem Yerdelen, Deputy Chair of the UK’s Transition Finance Council (TFC), seeing them as a blueprint for a resilient business model “that encapsulates material issues around physical climate risk adaptation”.
Critically, transition plans should be viewed as an opportunity, rather than another regulatory pressure, says Yerdelen. “Take it into your business transformation agenda; turn it into opportunity to increase value of the business. The further resilience you build in the business through transition plans gives a boost to the value of the bottom line.”
The TFC, which released guidelines for channelling finance into carbon-intensive sectors last month, posits that integrated transition planning across mitigation and adaptation will accelerate finance flows.
“In some of the transition plans, adaptation is talked about as a side topic, but it should be talked about as a golden thread, not a separate topic,” says Yerdelen.
Further, she argues, the UK’s proposed new guidance on the fiduciary duties of trustees should refer explicitly to toolkits and other educational materials that can them incorporate transition finance into investment decisions. Trustees could also require investment managers to use available guidance to identify transition-related investment opportunities.
“We do need the enabling policy environment. We can’t really do this on our own,” says Ramoutar.
Part one of this article highlights how gaps and vulnerabilities across portfolios are forcing institutional investors to re-think their approach to protecting long-term returns from physical climate risks.
