ESG data files - part seven, continued: Real estate and resilience

Channels: ESG, ESG Data

Companies: MSCI, Hermes, Actiam, Verisk Maplecroft, GRESB, RICS

People: Vincent Nobel, Gillian Mollod, James Lockhart Smith, Rik Recourt, Will Robson, Arjan Ruijs, Kees Ouboter

Investors are striving to get a handle on physical climate risks, but the data is still under construction, writes Christopher Marchant

"Properties that look good today could be under water or reduced to ash before the return on these investments is fully realised."

That was the blunt description of the physical risks climate change poses to real estate, in a report by analysts at MSCI.

Data plays a critical role for investors looking to avoid being hit by the physical impact of climate change, which can range from acute, short-term events, such as flooding, wildfires and hailstorms, to those that can have a longer-term impact, such as water stress.

While these events are not a recent phenomenon, climate change is believed to escalate the severity and regularity of these physical risks.

Investors, analysts and ratings agencies are starting to vigorously seek to understand the escalating nature of physical risk – though, as ever with environmental, social and governance (ESG) data, significant challenges remain.

Climate risk and resilience

Through its assessing the sustainability performance of real asset sector portfolios and assets, GRESB (formerly known as the Global Real Estate Sustainability Benchmark) collects information on over 1,000 participants and $4.1 trillion of assets, receiving data on over 100,000 buildings. Companies will provide their data to GRESB in exchange for a sustainability score out of 100. They can receive awards for their score based on what quintile their rating is placed into compared to other entrants.

In November 2019, GRESB partnered with risk data analysts Verisk Maplecroft to create the Climate Risk and Resilience Scorecard.

In compiling each company's scorecard, Verisk Maplecroft takes into consideration a multitude of ESG, climate and political risks at national or subnational level. GRESB measures portfolio-level or asset-level management of, and resilience to, these risks.

James Lockhart Smith, head of financial sector risk at Verisk Maplecroft, says: "The scorecard is intended to have a broad approach to questions of ESG."

He explains that it seeks to cover a building's exposure to an external hazard, but also externalities that could actually become indirectly material, such as water stress.

The scorecard aggregates the results of the Verisk Maplecroft Risk Management Score and an adaptation score from GRESB. Categories included in the assessment are a wide range of natural hazards, as well as social considerations, such as human rights in the supply chain and employee health. (See part three of this feature on ESG data for real estate for more details.)

As part of its real estate data collection, Verisk Maplecroft publishes a land property and housing rights index, quantifying the extent to which a particular country has a risk of corrupt land grabs and expropriation via government seizure of private land for development (in 2018 Myanmar finished bottom of this index with a score of 0/10).

Rik RecourtRik Recourt, associate for real estate at GRESB, expands upon what its contribution to the Climate Risk and Resilience Scorecard entails: "Most real estate investors have a few core markets, so it is important to compare risks against the general benchmark we provide, but it is also important that we offer use of GRESB data and insights into what kind of managerial policies and practices you can implement to improve upon your portfolio resilience."

Following an analysis of physical risks in five real estate markets in different regions (Australia, South Africa, the US, the UK and the Netherlands) first released in October, MSCI released a report with the intention of helping investors understand climate hazards, which can vary greatly across continents and countries.

It found that while awareness of these long-term risks is growing, real estate investors say that physical climate risk by itself is not enough to dissuade them from entering into an otherwise attractive market.

MSCI also raised issues regarding how physical risk data is collected, particularly in how localised, or granular, data needs to be in order to accurately indicate risk. Gillian Mollod, senior associate at MSCI and co-author of the report, says: "In analysing global data sets, it was found that in some regions it wasn't as granular as we wanted to get. For instance, all of greater London [was given] the same [level of] flood risk and the same drought risk because it's all in the same watershed – and that wasn't the level of granularity that we wanted to get across!"

Will Robson, global head of real estate research at MSCI and co-author of the report, says: "The overall risk of being struck by a hurricane doesn't, in and of itself, need to be assessed on a granular level, until you start to combine that with storm surge possibilities.

"This evolving nature of risk drives the need for more in-depth analysis, yet there is a trade-off between consistency on a global basis versus increasing the granularity of particular data sets. This tension is becoming more apparent in the risks around flooding, and less apparent in the broader risks about hurricane or water stress."

By the end of 2018, the value of the real estate investment portfolios assessed by MSCI was $2.1 trillion, putting the MSCI index coverage ratio across markets at an average of 23.6%.
Using parameters relating to geographic exposure to baseline water stress in Australia and South Africa, MSCI found that the combined capital value at risk in both markets amounted to $126 billion, with 84% of total capital value (with a value of $108 billion) at risk in Australia and 77% ($18 billion) at risk in South Africa.

In September, MSCI acquired Zurich-based Carbon Delta, which uses scenario analysis to generate data that helps assess the physical and transition climate risks faced by listed companies. Of the implications of this acquisition for MSCI, Mollod says: "We are trying to understand their methodologies and figure out where the synergies are between their methods and ours, and where we can improve their methods and vice versa.

"They do have a real estate model, which we are getting our hands wet in now, and part of that model is to look at physical climate risks and to understand how each risk will play a role. This is based on scientific literature, for instance assessing what three feet of flood damage will do to a five-storey building, and then creating cost-damage functions based on that."

Investor angle

Dutch asset manager Actiam, which manages over €60 billion ($67 billion) in assets, in March launched a real estate fund solely focused on investing in real estate companies with a high ESG score and a demonstrable contribution to the sustainable development goals (SDGs).

Actiam uses data from GRESB extensively when compiling its assessments of real estate. But, according to Arjan Ruijs, senior responsible investment officer at Actiam, there is still a lot of missing data or companies not providing data, leading Actiam to use additional data providers, including MSCI.

Arjan Ruijs

On ways this data collection could be improved, Kees Ouboter, responsible investment officer at Actiam, says: "Coverage is one of the [key] things, of course. Companies have to pay GRESB to provide them information. In our engagement programme, we spoke to companies who expressed a willingness to communicate with GRESB, but if they had to pay would rather spend that money to make their premises more sustainable or improve their own reporting practices."

Actiam uses data from MSCI on energy efficiency within its real estate portfolio, although the underlying disclosure of information by companies is not perfect, it says.

"In terms of individual sustainability reporting, a lot has improved already but we are not there yet", says Ruijs.

In October, Hermes Investment Management published a report assessing the impact of sustainability, climate change and health & wellness on real estate investments. Hermes Real Estate has £7.9 billion ($10.4 billion) of assets under management across UK and international portfolios.

Kees Ouboter

Its range of findings included that the number of households in the private rented sector in the UK increased by 63% in the ten years to 2017. It also argued for increased mixed-use housing, showing that 87% of retirees preferred to be in such accommodation.

Of the challenges for sourcing information for the sustainable housing report, Vincent Nobel, head of asset-based lending at Hermes and author of the report, says: "In some ways the biggest hurdle is that the data is hard to come by. The real estate market is very much the private market, so access to data is always more difficult.

"Data about specific assets we will have more than any equity investor will have about the company that they invest in. Data for the market as a whole is a lot harder to find."

Wider physical risk

As global temperatures increase – and with it climate destabilisation – the assessment of physical risks may need to change accordingly.

Vincent Nobel

Nobel points out one example of flaws in the current modelling system: "The UK Environment Agency mapping doesn't actually give you a very accurate picture as to what the risk is of flooding. It tells you how often it has flooded in the past but this November, when we saw floods in Cheshire and Yorkshire, there were plenty of streets that were flooded that don't appear on the flood maps."

However, Mollod at MSCI is sympathetic to this reliance on past data: "One of the great uncertainties of climate change and climate modelling is that we really don't know what is going to happen in the future, and we can only predict what's going to happen, based on what we've seen in the past.

"This November, when we saw floods in Cheshire and Yorkshire, there were plenty of streets that were flooded that don't appear on the flood maps" – Vincent Nobel, Hermes

"There can be the use of climate use thresholds to determine what might throw the system out of loop but, again, these rely on a lot of unknowns. So, I think that while there will always be various bits of uncertainty, the importance of predicting what might happen is also essential because if you don't then no-one will pay attention to what could happen next."

With the changing climate in mind, Actiam is adapting its sustainability policy to increasingly focus on the transition to a sustainable society and, according to Ouboter, it would like to include value at risk from extreme weather events such as abnormal snowfall, precipitation and wind, using data from Carbon Delta.

The Coalition For The Energy Efficiency of Buildings

At COP25 in Madrid, The UK's Green Finance Institute announced the formation of the Coalition for the Energy Efficiency of Buildings (CEEB), which aims to develop the market for financing net-zero carbon and climate-resilient buildings in the UK by accelerating the pace of financial innovation and scale-up.

The Green Finance Institute was formed out of the Green Finance Initiative in 2018 by the City of London Corporation alongside the UK Government.

Members of CEEB include BNP Paribas, Eversheds Sutherland, Transport for London and the UK Green Building Council.

Sean Tompkins, chief executive of the Royal Institute of Chartered Surveyors (RICS), also a member of the coalition, said: "It's critical that we encourage more investment in energy-efficient real estate and infrastructure, and RICS has a huge role to play given our global reach and expertise."

This article is part of a series of features exploring ESG data.

• To read 'The ESG data files – introduction, click here
• To read 'The ESG data files – part one: reported data', click here
• To read 'The ESG data files – part two: non-reported data', click here
• To read 'The ESG data files – part three: ESG rating agencies', click here
• To read 'The ESG data files – part four: fixed income data', click here
• To read 'The ESG data files – part five: the impact of the EU's taxonomy', please click here
• To read 'The ESG data files – part six: TCFD and the challenge of looking forward', click here
• To read 'The ESG data files – part seven: Building data for real estate', click here