2.1. Current UK General Purpose Risk Reporting Requirements

Since UK insurance companies and pension schemes are established as differing forms of legal entities, it should not be surprising that the existing UK legal framework that regulates risk reporting differs substantially between them. Most importantly, the PRA (2019) expects insurance companies to provide the board and relevant subcommittees with management information on their exposure to the financial risks from climate change, e.g. based on scenario analysis and the mitigating actions and associated time frame the firm proposes to take. The management information should enable the board to discuss, challenge and take decisions relating to the firm’s management of the financial risks from climate change. This section is therefore confined to a very brief overview of those regulations applicable to risk reporting in “general purpose” financial (annual) reports produced by these entities.

2.1.1. Insurance companies

Table 1 summarises the main existing regulatory framework governing risk reporting by UK insurance companies.Footnote ³

Table 1. Current UK Regulations Governing Insurance Company Risk Reporting

Source: Authors’ own analysis.

Sections 414A-414D of the Companies Act 2006 require companies to produce strategic reports as part of their annual report that includes a description of the company’s principal risks and uncertainties.Footnote ⁴ However, the guidance focuses on company-specific information and does not provide a standard list of items to be disclosed. The Financial Reporting Council (FRC) (2014) has since issued general principle-based guidance on the Strategic Report which includes the requirement that companies produce information related to their environmental impact when “material” (Financial Reporting Council, 2014, page 4).

The Revised Corporate Governance Code (FRC, 2015, 2018) requires that UK company annual reports must now incorporate specific statements concerning (a) a “robust assessment” about their principal risks (C2.1); (b) company management’s expectations about the future prospects of the company (C2.2); and (c) a review of the effectiveness of risk management procedures and monitoring policies (C2.3). In 2018, the FRC updated the guidance to encourage companies to “consider the broader matters that may impact the performance of the company over the longer term including the interests of wider stakeholders” (FRC, 2018).

Department of Environment, Food and Rural Affairs (DEFRA) (2019) has promulgated guidelines concerning the reporting of performance indicators by UK companies. These include both statistical-based indicators across a range of environmental areas, such as emissions, resource use as well as financial-based indicators such as environmental fines and expenditures. However, the guidance allows for considerable discretion by UK companies over the nature and extent of these performance indicators are reported by limiting its scope to only providing general principles of reporting quality, rather than specify exact key performance indicators to be reported (e.g. relevance, accuracy) (DEFRA, 2019, page 3).

Annual reports issued by publicly listed UK insurance companies must also comply with relevant International Financial Reporting Standards and International Accounting Standards issued by the International Financial Reporting Standards Board.Footnote ⁵ These mainly concern the financial disclosures and the recognition of financial statements that affect the form and content of annual reports and are also subject to audit by independent audit companies.Footnote ⁶ However, there are currently no requirements for UK auditors to explicitly consider the materiality and disclosure adequacy of climate-related risks.Footnote ⁷

2.2. Specific Guidelines on Climate-Related Risk Reporting

In addition to UK-specific codified regulatory and/or legal requirements for general purpose reporting related to climate change, voluntary accountability requirements, protocols, codes and guidance have also been promulgated. Unlike the accounting-based requirements discussed in Section 2.1, these are voluntary and therefore entirely dependent on the organisation to choose whether or not to implement them, through either separate disclosure in the annual report or in a separate sustainability report. These are summarised in Table 2 and are briefly overviewed in the remainder of this section.Footnote ¹²

Table 2. Voluntary Environmental Reporting Guidelines

Source: Authors’ own analysis.

The Climate Disclosure Standards Board (CDSB) (2018) has issued guidance for large companies to disclose in their annual reports for reporting environmental information and about natural capital. It provides generic purpose reporting guidelines of a reporting organisation’s natural capital dependencies, as well as environmental results, risks, opportunities, policies, strategies and targets. The reporting requirements are mainly focused on policies, strategies, risks and opportunities, as well as the firm’s environmental performance and future outlook.

By contrast, the Taskforce on Climate-related Financial Disclosures (TCFD) (2017) provides recommended guidelines concerning climate-related financial disclosures in their annual reports. It provides more detailed and specified guidance for recommended disclosures concerning the impact of climate change risk on governance, strategy, risk management and metric and targets for all multinational enterprise sectors. The recommended disclosures are to be implemented in the annual report or “filing”. The 11 specific TCFD recommended types financial disclosures are further categorised into four major areas; (i) governance (two dimensions), (ii) strategy (three dimensions), (iii) risk management (three dimensions) and (iv) metrics and targets (three dimensions). These are reported in Table A.1 in Appendix A. In 2018, a number of large financial services companies, including UK insurers and pension schemes, announced that they would implement the TCFD recommendations (Seekings, Reference Seekings2018).Footnote ¹³

2.3. Recent Developments

In addition to the above general guidelines, climate risk reporting practices by UK insurance companies have been influenced by a report published by the PRA (2015). This identified three main types of climate risk factors to which UK insurance companies are exposed: physical, transition and liability. It recommended that insurance companies incorporate disclosure of these risk factors within their statements of principal risks. Subsequently, the PRA (2019) undertook a review of current climate risk management practices of the UK banking and insurance sectors. It found that, “while companies are enhancing their approaches to managing the financial risks from climate change; few companies are taking a strategic approach that considers how actions today affect future financial risks” (PRA, 2019).

By contrast to the range of environmental and/or climate risk reporting regulations and guidelines applicable to UK insurance companies, there are currently no specific regulatory or voluntary requirements for UK pension schemes to report environmental risks. Moreover, there has been an ongoing debate as to whether pension scheme trustees should explicitly take account of climate change-related issues as part of their investment strategy. In 2015, the Law Commission (2015) stated that there was no reason why UK pension schemes should not take account of environmental factors as part of their fiduciary duty regarding investment policy. Additionally, there are a range of investment industry initiatives to monitor a range of “Environment, Social and Governance (ESG) factors as part of Responsible Investment Strategy, such as the Assets Owners Disclosure Project and the International Investors Group on Climate Change (IIGCC).”

Since its 11 specific climate-related disclosure recommendations were issued in 2017, the TCFD has issued two annual status reports (TCFD, 2018, 2019) concerning the degree of alignment with its recommendations. Its most recent status report, issued in June 2019, found that, based on a review of annual reports issued by large companies in 142 countries, that the average number of recommended disclosures per company has increased by 29% from 2.8 in 2016 to 3.6 in 2018.Footnote ¹⁴

There has also been increased regulatory and political scrutiny of disclosures related to climate change. In early 2018, the House of Commons Environmental Audit Committee (HCEAC) wrote to trustees of major UK pension schemes requesting information as to what actions they were taking on climate change. Subsequently the Green Finance Task Force Inquiry recommended “companies and investors” should implement the TCFD framework to “develop their financial, corporate governance and stewardship disclosures.” The HCEAC subsequently issued a report in mid-2018 (House of Commons Environmental Audit Committee, 2018) which recommended compliance with the TCFD disclosures. It identified three categories of respondentsFootnote ¹⁵ ;

1. (i) “more engaged” – actively managing climate risk and committed to implementing the TCFD disclosure recommendations;

2. (ii) “engaged” – acknowledged climate change as a risk but only as part of ESG factors, with greater caution about committing to TCFD reporting; and

3. (iii) “less engaged” – climate risk not considered specifically as a strategic risk and no current plans to report climate risks.

3.1. Perceived Costs and Benefits of Climate Risk Reporting

This section briefly outlines legitimacy, reputation, information asymmetry and transparency rationales for the development of sustainability reporting as identified by Herzig and Schafteller (Reference Herzig, Schaltegger, Schaltegger, Bennett and Burritt2011). Spence and Gray (Reference Spence and Gray2006) explored the motivations underlying social and environmental reporting in the UK. Perceived benefits and pressures facing UK companies ranged from business efficiency, market drivers, reputation and risk management, stakeholder management, internal champions and mimetic motivations.

An essential goal in defining strategies to disclose sustainability information is to establish, maintain or repair legitimacy (Deegan, Reference Deegan2002). This applies for the public acceptance of the company generally, as well as for the acceptance of particular management decisions and activities by the company’s key stakeholders.

Another explanatory motive underlying sustainability reporting can be the enhancement of a company’s reputation and risk management (Bebbington et al., Reference Bebbington, Larrinaga and Moneva2008). Outstanding corporate reputation is often related to higher brand value and may contribute to increasing business success (e.g. Fombrun, Reference Fombrun1996). In particular, reputation may be enhanced by reporting about successful engagement in non-market matters, i.e. in social and environmental projects that are not considered to be part of core business activities.

Reporting climate risk information may also help to reduce information asymmetry between a company and its stakeholders concerning its engagement with such issues (Schiemann & Sakhel, Reference Schiemann and Sakhel2018). Companies that are perceived as being simultaneously high performers both in the market and for society may face less friction and problems in their business relationships with suppliers, traders, public authorities and other stakeholders.

Finally, with the collection and analysis of information as well as the creation of greater transparency, sustainability reporting can support internal information and control processes (Owen & Dwyer, Reference Owen, O’Dwyer, Crane, McWilliams, Moon and Siegel2008). Reporting non-financial corporate activities signals a willingness to communicate about and deal with societal issues, and may serve to secure a continuing good relationship with the company’s stakeholders (Roberts, Reference Roberts1992; Herzig & Schafteller, Reference Herzig, Schaltegger, Schaltegger, Bennett and Burritt2011).Footnote ¹⁷

3.2. Review of Literature on Climate Risk Reporting

This section briefly outlines and reviews prior research related to climate-related risk reporting practices by companies.Footnote ¹⁸ We first review the TCFD’s (2018) own analysis of the degree of alignment by various companies with its recommended disclosures. We then briefly discuss examples of research of most relevance to our study.Footnote ¹⁹

As outlined in Section 2.3, the TCFD (2018, 2019) has published annual “status reports” which reviewed the extent of implementation of the TCFD (2017) recommended climate-related disclosures across a range of industry sectors as reported in the latest 2017 reports available at that time. It undertook a comprehensive review of the extent of global compliance with its 11 key recommended disclosures by 8 different global industry sectors, including the insurance sector and “asset owners” (which would include pension schemes).Footnote ²⁰ The TCFD’s (2018) review methodology comprised analysis of both (a) “baseline information” on the alignment of climate-related financial disclosures (“yes” or “no”) using artificial intelligence software (“AI review”); and (b) a more disclosure practices review of 200 large companies (25 from each of the 8 groups) (“disclosure review”).Footnote ²¹

Due to the limited public availability of “asset owner” reports, the TCFD’s analysis was only confined to five sectors, including insurance companies. The TCFD (2018, page 20) analysis found that the 311 insurance companies report subject to the “AI review” appeared to align with the recommended disclosures less frequently than other groups, whereas the 25 insurance companies report subject to the “disclosure review” aligned with the recommended disclosure more frequently than any other groups except banks.

Masons (2018) undertook a series of interviews with key UK pension scheme trustees in the light of the HCEAC (2018) inquiry into how they are managing the risk of climate change generally. They found that trustees face a number of barriers to effective climate risk management, due to a lack of clarity of regulatory and methodological issues. However, they also found that the financial impact of climate risk was less influential in a fund’s climate risk management strategy.

Other studies have examined the propensity facing companies to engage in climate risk reporting, but have only examined this issue for non-financial companies. For example, Eccles and Krzus (Reference Eccles and Krzus2017) conducted a field experiment to evaluate climate-related risk reporting practices by the US oil and gas industry in the year prior to the publication of the TCFD (2017) recommended disclosures. They found that significant variations in reporting practices, with most disclosures occurring in voluntary sustainability reports rather than in the annual report financial filings, as recommended by the TCFD.

Ben-Amar and McIlkenny (Reference Ben-Amar and McIlkenny2015) examined the relationship between the effectiveness of corporate governance and voluntary climate change disclosures by a sample of Canadian industrial companies during 2008–2011, responding to the annual Carbon Disclosure Project (CDP) annual questionnaire. They found a significantly positive association between board effectiveness and their decision to respond to the questionnaire.

Finally, Amel-Zadeh (Reference Amel-Zadeh2019) conducted a global survey of investors and companies on the materiality of climate risk for financial reporting. Whereas the majority of investors surveyed believed that climate risk is financially material and thus heightened regulatory and litigation risk, this view was not shared by the companies surveyed. Amel-Zadeh (Reference Amel-Zadeh2019) concluded that this misalignment resulted in a lack of corporate disclosure related to climate risk.

An important issue affecting climate risk reporting practices that is not addressed specifically by the above literature concerning corporate incentives sustainability reporting generally is that UK insurance companies and pension schemes face different regulatory environments, as noted in the previous section. The UK insurance companies may choose to report on their climate risk using either (or both) “formal” reporting mechanisms (e.g. mandatory, publicly disseminated corporate annual reports) as well as other more “informal” communication devices (e.g. publicly available documents concerning “environmental responsibility”, such as a Statement of Investment Principles (SIPs), Environmental, Social and Governance (ESG) Reports, Strategic Reports or other “corporate social responsibility” or “sustainability” reports) accountability mechanisms. By contrast, UK pension schemes do not have any formal public accountability obligations concerning climate risk reporting, but is restricted to their members and to the regulator. Furthermore, they face very limited broader societal accountability for climate-related risk, depending on whether or not their trustees choose to voluntary adopt related to societal-wide “responsible investment” objectives or otherwise see it as simply generating higher long-term investment returns.

3.3. A Conceptual Framework for Analysing Climate Risk Reporting

The review of relevant prior theories identified a complex range of incentives facing organisations reporting obligations related to environmental risk. However, these are mainly limited in scale and scope to non-financial companies, and in connection with “formal” annual reporting mechanisms. By contrast, the institutional background discussed in the previous section highlights that insurance companies and pension schemes face industry-specific regulatory environments and face political and/or regulatory scrutiny concerning their broader engagement with a wider range of climate-related reporting issues. Reynolds et al. (Reference Reynolds, Blackmore and Smith2009) propose a framework for various dimensions of accountability related to environmental responsibility that can be applied to various contexts. Their framework distinguishes among a range of alternative (consequentialist – “doing what’s good”, deontological – “doing what’s right” and ecological – “being virtuous”) perspectives concerning normative, philosophical and political dimensions of accountability for environmental risk. These questions are intended to provide insights into the following issues: (a) what we can and need to take responsibility for; (b) who might do it and how; and (c) why the concept of environmental responsibility is relevant to the topic (Reynolds et al., Reference Reynolds, Blackmore and Smith2009). This general framework is summarised in Figure 1.

Figure 1. Environmental responsibility: general framework (Reynolds et al., Reference Reynolds, Blackmore and Smith2009).

We apply this general framework to insurance companies and pension schemes, respectively. A major difference between these types of organisations is that insurance companies have both formal and informal accountability relationships with a range of stakeholders. By contrast, pension schemes’ accountability for climate risk is more limited. Furthermore, climate risk reporting may be located both in the context of “formal” (via the mandatory corporate annual report) and “informal” (via publicly available documents, such as “corporate social responsibility reports”) accountability mechanisms. By contrast, UK pension schemes have more limited accountability to their members and to the regulator.Footnote ²² Furthermore, there is only very limited broader societal accountability for climate-related risk, depending on whether or not trustees choose to voluntarily adopt recommendations by ESG-oriented investors concerning “responsible investment” objectives.

5.1. Sample Selection Procedures

The sample was initially based on the 25 largest UK pension schemes, which had responded to the HCEAC (2018) request for information concerning how climate change risk was incorporated into their long-term decision-making. Because UK pension schemes are not legally obliged to publicly disclose their annual trustee reports, the analysis undertaken to address research questions (i) and (ii) was restricted to the latest trustee annual reports which have voluntarily been made publicly available. We were only able to identify trustee annual reports that were made publicly available by 15 out of the 25 largest UK pension schemes which had responded to the HCEAC (2018) request.

In order to provide comparable evidence concerning the degree of alignment with TCFD recommendations between large UK insurers and large UK pension schemes, most recent annual reports produced by the largest 15 UK insurers were used for the analysis undertaken to address research questions (i)–(iv).Footnote ²³ Table B.1 in Appendix B lists the samples of UK insurance companies and pension schemes.

5.2. Data Sources

Our analysis is restricted only to the most recent publicly available primary research data sources issued by the samples of UK insurance companies and pension schemes.Footnote ²⁴ This restriction is consistent with the approach taken by the TCFD’s (2018) analysis on the degree of alignment with TCFD recommendations. In the case of UK pension schemes, this has been supplemented by the HCEAC’s (2018) analysis of trustee responses to their inquiry.

In order to address the research question (ii), the analysis was based on all publicly available documents produced by the 25 largest UK pension schemes. These included “Statement of Investment Principles” or other publicly available documents. For the equivalent sample of UK insurance companies, all publicly available documents were analysed, including “Corporate Responsibility Reports”, “Strategic Reports”, “Sustainability Reports” or other similarly named documents provided on the corporate website.Footnote ²⁵

In order to address question (iii), we obtained key financial risk factors from publicly available information, either directly from the sample entity publications or extracted from the ORBIS database. Research question (iv) was addressed by reference to climate risk reporting practices contained in annual reports of those UK large insurance companies and pension schemes which were most closely aligned with TCFD recommended disclosures and/or showed highest degree of engagement with more generic climate risk reporting issues.

5.3. Research Design

Our research design used to address questions (i)(a) and (b) replicates that of the TCFD’s (2018) disclosure practices review. The TCFD undertook both a manual and artificial intelligence software “AI review”). However, in reporting the results of their research, the TCFD (2018) admitted that there were significant and material discrepancies between their manual disclosure practices review and their AI review. As we do not have access to the AI software used by TCFD to perform their analysis, and in the light of these discrepancies, our analysis is based only on a manual, researcher-based analysis of the degree of alignment of annual reports with the various 11 TCFD recommendations.Footnote ²⁶

To address research questions (ii)–(iv), we assessed the publicly available information produced by insurance companies and pension schemes based on the following three sets of general questions as an indication of the extent of action they have taken to mitigate climate risk.

1. 1. Engagement with external organisations issues:

   1. (i) Is the insurance company/ pension scheme a signatory of the Principles for Responsible Investment (PRI)?

   2. (ii) Is the insurance company/pension scheme a member of the International Investors Guarantee scheme?

   3. (iii) Is the insurance company/pension scheme a signatory of the CDP?

2. 2. Reporting and policy issues:

   1. (i) Does the insurance company/pension scheme maintain a responsible investment policy or similar?

   2. (ii) Does the insurance company/pension scheme recognise climate change as a driver of long-term risk and return, as distinct from a broader definition of ESG?

   3. (iii) Is climate risk specifically addressed in the SIPs?

   4. (iv) Does the insurance company/pension scheme report in line with the TCFD’s recommended disclosures, or intend to do so in the near future?

3. 3. Action taken issues:

   1. (i) Has ESG in general impacted the insurance company’s/pension scheme’s asset allocation/stewardship approach?

   2. (ii) Has climate risk specifically impacted the insurance company/pension scheme’s asset allocation/manager selection/stewardship approach?

In assessing this issue, we assigned a score of 2 (“positive”) if there was evidence that the insurance firm or pension scheme had positively engaged on this issue, 0 (“negative”) if they had not and 1 if there was ambiguity on their position (“neutral”).

5.4. Definition of Variables

In order to address research question (iii), we define the following definitions of key variables related to both (a) the dependent variables related to either (i) the degree of alignment with specified TCFD recommended disclosures or (ii) the extent of more generic climate change-related disclosure as discussed above and (b) independent variables related to either financial risk and/or various corporate characteristics of relevance to our research, based on our review of prior theoretical perspectives and empirical research evidence in Section 3. Table 3 defines the key variables of relevance to our study.

Table 3. Variable Definitions

In order to test whether the degree of alignment of climate risk-related disclosures with TCFD recommendations is related to information asymmetry (e.g. Clarkson et al., Reference Clarkson, Li, Richardson and Vasvari2008), we measure both liability and asset-related standard measures of financial risk. The liability risk measure (LiabRisk) is defined either by reference to the Solvency II capital adequacy ratio (for insurance companies) or the funding ratio of the actuarial valuation of assets to assessed liabilities (for pension schemes). The asset risk measure (InvRisk) is defined as the percentage of total financial investments that are invested in non-cash convertible assets, such as equities, private equity, property, derivative instruments and other “risky” asset classes).

To test the hypothesis that the degree of alignment of climate risk-related disclosures with TCFD-specific recommendations is related to either legitimisation, reputation and/or risk management issues, we measure both the total size of assets (measured in logs – LNSize) and the periodic return on total assets (ROA), respectively. We predict that, consistent with the results of prior-related research (e.g. Bebbington et al., Reference Bebbington, Larrinaga and Moneva2008), a positive relationship between the size and/or periodic return of the entity and the degree of alignment of climate risk-related disclosures with TCFD-specific recommendations.

We also include a control variable for the effectiveness of corporate governance, which we define as the percentage of outside directors on the board (OSDirect). Consistent with prior research findings (e.g. Ben-Amar & McIlkenny, Reference Ben-Amar and McIlkenny2015), we predict a positive relationship with the percentage of outside directors on the board and the degree of alignment with TCFD recommended disclosures.

Finally, in order to test the predictions of stakeholder theory, we incorporate three further variables to control for variations in the type of entity being analysed. First, we incorporate a dummy variable that delineates between either publicly listed (=1) and non-publicly listed (=0) entities for insurers, and between private sector (=1) and publicly sector sponsored pension schemes, respectively (Owner). We also include a dummy variable indicating the type of business, either general (=1) or life (=1) for insurance companies, or single (=1) or multiple (=0) employer sponsored pension scheme, respectively, incorporate line of business (BusType). Finally, we also incorporate into our pooled regression a further dummy variable to delineate between sample insurance companies (=1) and pension schemes (=0), respectively (Entity). Consistent with the predictions of stakeholder theory (e.g. Roberts, Reference Roberts1992), we predict a positive relationship between the relative degree of stakeholder engagement, as proxied by whether or not the entity is publicly listed, and multi-employer sponsored, and the degree of alignment of climate-related risk disclosures and TCFD-specific recommendations.

5.5. Econometric Models

Based on the above discussion, we predict that UK insurance companies and pension schemes are primarily motivated to align their climate-related risk disclosures with specific TCFD recommendation in order to reduce information asymmetries concerning this issue (i.e. as proxied by LiabRisk). By contrast, we predict that their propensity to demonstrate engagement with climate risk reporting issues is driven primarily by reputation and political risk management (i.e. as proxied by LNSize). We therefore develop the following multivariate Ordinary Least Squares (OLS) regression models in order to test research objectives (iii) (a) and (b), respectively;

Model 1: the degree of alignment with specified TCFD recommended disclosures;

(1) $$DegAlig{n_{i,t}} = {\beta _0} + {\beta _1}LiabRis{k_{i,t}} + {\beta _2}{X_{i,t}} + {\epsilon_{i,t}}$$

Model 2: the extent to which entity adopts generic climate-related disclosures;

(2) $$Engag{e_{i,t}} = {\beta _0} + {\beta _1}LNSiz{e_{i,t}} + {\beta _2}{X_{i,t}} + {\epsilon_{i,t}}$$

where i represents the reporting entity, t represents the years, DegAlign_i,t is the degree of alignment between firm disclosures and the TCFD specified disclosures, and Engage_i,t is the total engagement score of the firm i at the time t related to its extent to which it adopts generic climate-related disclosures contained in its annual report of shareholders or interested parties, LiabRisk_i,t and LNSize_i,t are the main explanatory variables, X_i,t is a vector of control variables, and ϵ_i,t is the random error term.

Since we do not have any economic theory as to the form and nature of the association between the independent and dependent variables defined in models (1) and (2), we assume a linear relationship and therefore follow the prior literature using standard multivariate OLS regression tests that are based on normality and independence assumptions, and separately report various robustness checks and tests to examine departures from these assumptions.

6.1. Degree of Alignment with TCFD Recommendations

This section reports the degree of alignment between UK insurance and pension scheme samples with the TCFD recommended financial disclosures, both in aggregate and by type of disclosure. Our analysis is restricted to the insurance company sample only, since, to the best of our knowledge as of date of publication, none of the UK sample pension schemes has issued any publicly available trustee report beyond the initial transition year 2017–2018.Footnote ²⁷

Figure 2 reports the average and standard deviation of the degree of alignment between UK insurance and pension scheme samples with all 11 TCFD disclosures.Footnote ²⁸

Figure 2. Total TCFD alignment.

Figure 2 shows that UK sample pension scheme trustee annual reports provide a significantly greater average degree of alignment with the aggregate of the 11 TCFD recommended disclosures than equivalent UK sample insurance company annual reports. However, only 3 out of the 15 sample UK insurance companies in our sample provide any significant TCFD-related disclosures in their 2017 and 2018 annual reports. Figure 3 reports the degree of alignment between climate risk reporting practices by these companies with all 11 TCFD disclosures.Footnote ²⁹

Figure 3. Degree of alignment with TCFD disclosures by insurance companies.

Annual reports produced by only 4 of the 11 sample UK pension schemes appeared to show any significant degree of alignment with the TCFD recommended disclosures. Figure 4 reports the degree of alignment between each of these 4 UK pension schemes with all 11 TCFD disclosures.

Figure 4. Degree of alignment with TCFD disclosures by pension schemes.

Figure 4 shows that UK sample pension scheme trustee annual reports provide a significantly greater average degree of alignment with the aggregate of the 11 TCFD recommended disclosures than equivalent UK sample insurance company annual reports.

Overall, our findings related to research question (i)(b) are equivocal. Our results were not consistent across the four dimensions of TCFD disclosures. There were increases in the degree of alignment of TCFD recommended disclosures related to risk management and metrics and targets, but not related to governance and strategic elements.

6.2. Analysis of Other Climate-Related Information

In this section, we analyse more generic disclosures provided by large UK insurance companies and pension schemes related to climate risk in order to address research question (ii). The sources for this analysis have been the publicly available SIPs, actuarial valuations, and trustee report and accounts (noting this is not readily obtainable for all schemes). We have also used the written responses each scheme submitted to the HCEAC. Our analysis initially focused on the 25 largest pension schemes which responded to the inquiry. We then replicated this analysis for the 15 largest insurance companies, using publicly available annual reports, strategic reports and/or sustainability or Corporate Social Responsibility-related reports available on the corporate website.

6.2.1. Insurers versus pension schemes

We first compare the relative percentage of total positive, neutral and negative scores of the sample insurance companies and pension schemes, based on the aggregate responses to each of the three categories of general questions outlined above.

Figure 5 shows pie charts for the samples of insurance companies and pension schemes related to the two questions associated with the first “engagement” issue.

Figure 5. Engagement issues – insurers versus pension schemes.

The pie charts show that insurance companies are significantly “less negative” than pension schemes in engaging with external organisations, although the proportion of insurers positively engaged is much less than pension schemes. A significant proportion of insurers are neutral in contrast with very small proportion of pension schemes which are neutral. Less than half of the pension schemes analysed signed up with external organisations. The most signed up to the PRI and fewest signing up to the International Investors Group on Climate Change Governance Code (IIGCC). However, there is also a much higher level of neutrality on this issue for insurers (e.g. mentioning “adherence” to relevant principles rather than being “members” of the relevant organisations).

Figure 6 shows pie charts for the samples of insurance companies and pension schemes related to the four questions related to the second “reporting and policy” issue.

Figure 6. Reporting and policy issues – insurers versus pension schemes.

The pie charts show that UK pension schemes are more likely to take positive action on the reporting and policy issues than UK insurance companies. This result is consistent with the overall findings obtained from the analysis of more specific TCFD-related disclosure alignment analysis, reported in the previous section.

Over two-thirds of pension schemes maintain a responsible investment policy. The concept of Socially Responsible Investment has been around for over 15 years so this is not a surprising result. However, only six pension schemes do not distinctly recognise climate change from ESG. Approximately equal numbers of pension schemes indicated that they either do, or plan to, align their reporting with TCFD. Some comment that they want to understand more what it involves, whereas others say climate risk is one of many risks that balance against investors’ needs.

Figure 7 shows pie charts for the samples of insurance companies and pension schemes related to the four questions related to the third “action taken” issue.

Figure 7. Action taken issues – insurers versus pension schemes.

The pie charts show that UK pension schemes disclose that they are more prepared to take positive action concerning the impact of ESG/climate risk issues on their long-term asset allocation decisions than UK insurance companies. The vast majority of pension schemes confirmed (or it was self-evident) that ESG in general had impacted their scheme’s assets allocation/manager selection/stewardship. However, a little over half show climate risk specifically impacted their asset allocation/manager selection/stewardship approach. Less than half do not show it specifically impacted their approach.

Three of the pension schemes investigated scored “full marks” showing the highest level of climate risk reporting and engagement within their scheme. These schemes are government or pseudo-government schemes. The schemes that scored the worst were large organisations with shareholders, where there will inevitably be competing needs when allowing for climate risk may not be perceived to be a material risk in comparison to other risks facing the pension scheme.

6.2.2. Publishing versus non-publishing pension schemes

Our analysis of generic climate risk reporting in the previous subsection was based on the 15 largest UK pension schemes responding to the Parliamentary inquiry that voluntarily make their annual trustee report publicly available online. However, another 10 of the largest UK pension schemes which provided responses to the Parliamentary Inquiry do not publish their annual report in the public domain. We therefore undertook further analysis to compare whether the degree of engagement with climate risk in their investment decision-making is related to whether or not the 25 largest UK pension schemes do (15 schemes) or do not (10 schemes) make their annual report available in the public domain.

Figure 8 shows the comparative means and standard deviations of the percentage of total generic disclosures that were produced by publishing (15) versus non-publishing (10) pension schemes.

Figure 8. Generic climate disclosures – publishing versus non-publishing pension schemes.

Figure 8 shows that, on average, pension schemes which voluntarily make their annual reports available in the public domain have a significantly higher average percentage of total scores related to the various questions concerning engagement and reporting and policy issues than those which do not make their annual reports available in the public domain.

7.1. Descriptive Statistics

Table 4 reports summary descriptive statistics for each of the main dependent and independent variables that were defined in Table 3.

Table 4. Descriptive Statistics

Note: Variables are defined in Table 3.

Table 4 shows that, while the average degree of alignment of climate-related disclosures with specific TCFD recommendations (Deg) is significantly higher for pension schemes than it is for the sample insurance companies, average generic climate risk-related engagement (Engage) is very similar. This may reflect the higher degree of engagement by certain public sector-sponsored pension schemes, as reported in Figure 2.

The liability risk (LiabRisk) of the sample insurance companies is significantly higher than that of the sample pension schemes. This likely reflects the capital adequacy calculation under Solvency II, whereby insurance companies need to demonstrate that they have sufficient capital to cover their obligations. By contrast, many UK pension schemes are underfunded. Similarly, the average investment risk (InvRisk) of insurance companies is significantly higher than that for the sample pension schemes. This likely reflects their different risk attitude towards financial investments, as well as the well-documented “de-leveraging” of pension scheme asset allocations in recent years, following the financial crisis.

The average size (SIZE) of the sample insurance companies is significantly higher than that of the sample pension schemes. This result is likely is probably skewed by the presence of highly capitalised large publicly listed insurance companies. By contrast, the average return on assets of pension schemes is significantly higher than that of the sample insurance companies. This is most likely due to their relatively higher proportion of financial investments as a proportion of their total assets, the returns on which are measured using a consistent but more volatile fair valuation basis.

The percentage of outside directors (OSDirect) of the sample insurance companies is significantly higher than that of the sample pension schemes. This likely reflects the requirements of UK corporate law and the Corporate Governance Code that a significant proportion of UK company boards comprise of outside directors. By contrast, there are no requirements for UK pension schemes to appoint outside directors to their trustee boards, which typically comprise of employer and employee and/or pensioner appointed representatives.Footnote ³⁰

Both of the structural control dummy variables (BusType and Owner) are similar for the sample insurance companies and pension schemes. Consequently, and notwithstanding the inconsistency in measurement bases for certain other control variables noted above, we are able to report pooled regression results in the next section.

7.2. Bivariate Correlation and Multivariate Regression Tests

Our econometric models (1) and (2) assume a standard multivariate empirical test. Therefore, in order to meet the standard independence assumptions underlying these tests, the independent (explanatory) variables need to be independent of each other, which means that factors with strong correlation are not allowed. Otherwise, the interaction between variables will lead to spurious errors in the multivariate results due to abnormal variations of the coefficient (O’Brien, Reference O’Brien2007). Therefore, a collinearity test is needed to assure that independence assumptions underlying OLS regression tests are not violated.

Table 5 reports the bivariate Pearson correlations between each of the independent variables.

Table 5. Pearson Correlations Between Independent Variables

Note: Variables are defined in Table 3.

For the sample insurance companies, Panel A shows that most independent variables are not collinear at a statistically significant level, except for a negative relationship between InvRisk and BusType. This is expected, since life insurance companies typically have a significantly higher proportion of financial investments in their total assets than general insurers, due to their investment-focused business model.

For the sample pension schemes, Panel B shows that only OSDirect and InvRisk are highly positively correlated. This result is not surprising either, since one would anticipate that pension schemes with a relatively high proportion of their asset allocation portfolio invested in “risky asset classes” would seek to ensure independent board monitoring of their investment activities.

Table 6 reports the OLS regression tests of the determinants of the degree of alignment of climate-related disclosures with TCFD-specific recommendations, as defined in economic model (1). We first report separate OLS regression test results for each of the sample insurance companies and pension schemes (Panels A and B). Panel C then shows pooled regression results for the combined sample.

Table 6. OLS Regression Tests – Degree of Alignment with TCFD Recommended Disclosures

Note: Variables are defined in Table 3.

Overall, the OLS regression test results regarding the degree of alignment with TCFD recommended disclosures are equivocal. On the one hand, Panel A shows that, for our sample insurance companies, the main determinants of variation in the degree of alignment with TCFD recommendations are positively related to size (LNSize) and the type of business (BusType), as their p-values are statistically significant at the 5% level (which are highlighted) and the coefficients are positive. By contrast, Panel B reports that, for our sample pension schemes, only the coefficient for financial risk (LiabRisk) is negative and statistically significant at the 5% level. When we pool the samples (Panel C), only the coefficients for LNSize (at the 1% level of significance) and BusType (at the 10% level of statistical significance) are positively and statistically significantly related to the degree of TCFD alignment.

In summary, the results of our econometric test analysis imply that information asymmetry (financial liability risk) is the main driver of TCFD alignment for sample pension schemes, consistent with our predictions. However, the results for both the sample insurance companies and the combined sample imply that variations in TCFD alignment are only consistent with an alternative reputation or political visibility explanation, as proxied by size or the reporting entity. There is also some evidence of structural variations related to the type of business. However, these results should be treated with extreme caution, since the overall F-statistic for all three models are not statistically significant. Thus, it is likely that there are either errors in variables or missing variables issues that might explain the observed cross-sectional variations.

Table 7 reports the OLS regression tests of the determinants of the extent of engagement with generic climate-related disclosure issues, as represented in economic model (2) defined in Section 5.5. Panels A and B show separate OLS regression test results for each of the sample insurance companies and pension schemes, respectively. Panel C shows the pooled regression results for the combined sample.

Table 7. OLS Regression Tests – Extent of Engagement with Climate Risk Issues

Note: Variables are defined in Table 3.

Similar to the test results reported in Table 6, there appear to be different determinants of the degree of engagement with climate risk reporting issues for UK insurance companies and pension schemes. Panel A shows that, for insurance companies, only the coefficient for board effectiveness (proxied by OSDirect) is positive and statistically significant at the 10% level. By contrast, for pension schemes, Panel B shows that the two coefficients that proxy for a reputation risk explanation (LNSize – at the 1% level and ROA – at the 10% level), as well as the coefficient for structural variable (Owner – at the 1% level), are both in the predicted direction and statistically significant. When we combine the two samples (Panel C), we find only positively and statistically significant coefficients for political visibility (LNSize) and two structural variables (Owner and Entity).

Overall, our empirical test results reported in Table 7 related to both the pension scheme and pooled samples are consistent with our prediction in economic model (2), i.e. cross-sectional variations in the observed degree of engagement with generic climate change. However, for the insurance sample, these variations are only statistically associated with board effectiveness (as proxied by OSDirect). We also find that structural variables related to ownership structure and/or business type are influential. Finally, our pooled sample results also imply that pension schemes are significantly more likely to engage with climate change reporting issues than insurance companies (Entity). Furthermore, our empirical tests results are more statistically robust. The F-model statistics of all three regressions are statistically significant at the 1% level, and the explanatory power of the regressions (adjusted R ² statistic) is also significantly greater than those reported in Table 6.

7.3. Robustness Checks

The results reported in the previous section were based on the strong limiting assumptions of OLS regression models. Due to the limited sample size and strong econometric assumptions underlying this model, we therefore undertook various other specification checks on the data and conducted non-parametric tests. We also replaced the measurement of key variables with alternative specifications and dropped variables to see whether this would affect the overall results. We did not find any significant differences between the nature and significance of the econometric results reported in the previous section.

8.1. Examples of Good Practice – TCFD Recommended Disclosures

Table 8 shows the extract of an example insurer’s annual report concerning its TCFD disclosures related to risk management.

Table 8. Example Insurer’s 2018 TCFD Disclosure

This example insurer’s climate risk disclosure has addressed all three of the “risk factors” identified by the PRA (2015, 2019) concerning the financial risks associated with climate change related to physical, transition and liability risk factors.

Table 9 shows the extract of an example pension scheme’s annual report related to its TCFD disclosures related to risk management.

Table 9. Example Pension Scheme’s 2018 TCFD Disclosure

This disclosure is much more clearly formatted to align with the specific TCFD (2017) recommended disclosure categories related to risk management. This example pension schemes disclosure goes further by explicitly citing the relevant TCFD recommendations, together with its commentary of how it deals with the various issues.

8.2. Generic Climate Risk-Related Engagement

In this section, we review examples of what we consider to be good practice disclosures which demonstrate how our sample insurance companies and pension schemes engage with a range of broader climate-related reporting issues (as outlined in Section 5.3).

Another example insurance companies’ Annual Report extract is shown below:

This generic disclosure highlights the example insurer’s relatively high level of engagement with external organisations. It is one of the few UK insurance companies which explicitly recognises its responsibilities related to both the CDP and Asset Owner Disclosure Project. It also highlights its ranking in the Global Climate Insurance Index, and its collaboration with the UNEP climate change scenario modelling project.

An example of an equivalent generic disclosure related to this issue by our sample of pension schemes can be illustrated by reference to another example pension scheme’s 2018 Annual Report.

This general disclosure provides insight into the relatively high level of engagement by the example pension scheme with a range of external organisations, such as PRI and the IIGCC. It also highlights its direct participation as a member of the Climate Action 100+ group of investors.