Episode 67: Barney Schauble, Nephila Climate
Today’s guest is Barney Schauble, Chairman, Nephila Climate, the world's largest asset manager dedicated to weather and catastrophe insurance risks.
Barney joined Nephila Capital in 2004 as a Managing Partner and moved to San Francisco in 2010 to set up Nephila Advisors. Barney is the Chair of the Board of Nephila Climate (NCx), and also a Director of Nephila Capital Ltd. and Nephila Holdings Ltd.
Barney is the Head of Nephila Labs, where his primary responsibilities include oversight of research and insurtech; he is also involved in investor relations and business development. Barney began working in re/insurance in New York in 1993 as a broker for Marsh and Guy Carpenter. He joined Goldman, Sachs & Co. in their Risk Markets group in 1996, where he helped to execute the first catastrophe bond and spent six years working on development and distribution of catastrophe and
weather-linked products. Barney joined XL Capital in 2003 and was head of marketing for the weather risk management business.
Barney attended Harvard College and received his BA in Economics in 1995. He wrote his senior thesis to explore investing in bonds linked to property catastrophe reinsurance risk. He served as a Director of The Climate Corporation (2007-2012), MetroMile (2009-2011), and Advisen (2014-2016). He is Chair of the Board of Ceres (a non-profit devoted to sustainable capitalism) where he has been a Director since 2011. He is also an advisor and/or board member of several insurance-related technology companies.
Enjoy the show!
You can find me on Twitter @jjacobs22 (me), @mcjpod (podcast) or @mcjcollective (company). You can reach us via email at info@mcjcollective.com, where we encourage you to share your feedback on episodes and suggestions for future topics or guests.
In today's episode, we cover:
Overview of Nephila, and of reinsurance, in general
History of the reinsurance market
Founding story of Nephila, and Barney’s experience leading up to that
The nature of Nephila’s work and how it has evolved over time
How Barney thinks about climate change, and his thinking has evolved over time
Barney’s views on climate risk, and short-term/long-term considerations looking into the future
Barney’s views on the best ways to solve
Barney’s work at Ceres, and why it is important
Is the reinsurance market a leading or lagging indicator of climate risk?
The role of policy
How Barney would allocate a big pot of money to maximize its impact in the climate fight
Barney’s advice for how you and I can help
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Jason Jacobs: Hello, everyone. This is Jason Jacobs, and welcome to My Climate Journey. This show follows my journey to interview a wide range of guests to better understand and make sense of the formidable problem of climate change, and try to figure out how people like you and I can help. Today's guest is Barney Schauble, managing partner at Nephila, the world's largest asset manager dedicated to weather and catastrophe insurance risks. Barney's spent the last 20 years in the reinsurance market as a broker, a banker, and investor. He's also on the boards of a range of insurance and technology companies. Barney does a great job in this episode of educating me, and hopefully you, on the reinsurance market, weather and catastrophe risk, how the market has evolved over the years, how the nature of this weather and catastrophe risk has evolved over the years, how Barney's thinking about climate change and how that thinking has evolved over the years, and of course how insurance fits into solving the climate change problem. What its role is, what other levers can be most impactful in the climate fight, and finally just Barney's advice for anyone that's looking to find their lane to help with the climate change problem as well. Barney Schauble, welcome to the show.
Barney Schauble: Thank you, it's a pleasure to be here.
Jason Jacobs: So this is a classic example of ... it's actually evidence that there's some natural word of mouth that's starting to occur around the show, because Alicia Seiger came on as a guest and then you guys are on the, is it Ceres board together?
Barney Schauble: That's correct.
Jason Jacobs: And you're at a retreat, and you're on a run, and Alicia's telling you about this podcast she just went on, and here we are.
Barney Schauble: That's right. She told me a little bit about your journey, and it seemed like it would be a exciting conversation to have.
Jason Jacobs: Well, you're a busy guy, and you're operating at a very high level at what you do, which means that you probably don't have a lot of time. So I really appreciate you. You can put this in the pro bono category of starting to spread the information and help inform more people about these important issues, where I hope it has some direct benefit to Nephila, but I know that wasn't the reason that you agreed to come on. And so I'm very much appreciative that you did.
Barney Schauble: Happy to do it.
Jason Jacobs: So, what's Nephila?
Barney Schauble: So, Nephila is an asset manager. We're an investment firm. But we're an unusual investment firm in that we act effectively like an insurance or reinsurance company. So we started over 20 years ago. The basic idea was to apply investor capital, most of the capital that we manage comes from global pension funds, to insurance or risk transfer related problems. So primarily around property catastrophe risk, hurricanes, earthquakes, or weather risk. Temperature, rainfall. And so that's the business that we've been in since it was founded in 1998.
Jason Jacobs: So let me try to speak that back, just to test the waters and if I understand with the caveat that this is the first reinsurance episode that I've done. And I'm totally wet behind the ears. So you have products that enable insurance companies to essentially, almost like a hedge, or if enough bad things happen where there's too much exposure, you balance that out by enabling them to get some back stock there. So it might mean that there's a slight hit to their overall profitability, but it puts some guard rails so that there's no world where they get whacked beyond what would be acceptable in the event of large scale disaster.
Barney Schauble: That's correct. And really the idea for this asset class, what people sometimes refer to as insurance linked securities, the idea came from the early 1990s. Andrew is a hurricane that hits just outside of Miami. Northridge is an earthquake that hits just outside of LA. And this was at the very earliest usage of computer models in the insurance industry. And those two events, which were not particularly large, cost a lot more than insurance companies had anticipated. And so there was a wholesale recalibration around how much risk are insurers taking? Particularly to catastrophe, which is concentrated.
Jason Jacobs: So the category of reinsurance didn't exist until that time?
Barney Schauble: It did. So reinsurance has been around for about 150 years.
Jason Jacobs: Shows you how much I know about reinsurance.
Barney Schauble: Well, it goes back to actually, most European cities used to have a fire insurance company, or two fire insurance companies. But then there was a fire in Cologne that effectively burned down the entire city. And the idea came about, perhaps you need to have a higher level company that can protect individual cities. Diversifying across one city's houses wasn't sufficient to enable survival as an insurance company. So the idea of reinsurance goes back to that time period, which is why you have many effectively national reinsurance companies. Swiss Re, Munich Re, SCOR in France where you would have a country-wide reinsurer that would cover the different cities. Obviously the business has become more global. But after the early 1990s events, even the reinsurers acknowledged there's more risk in Southern Florida, for example, or here in Northern California, than insurers or reinsurers can digest. If you have to diversify that exposure, there's only so much you can take, even on the largest balance sheets of the industry.
Barney Schauble: So the thought was, could you take that risk and package it, and distribute it to broader capital markets? And the hope is that would work for two reasons. One is you're paid relatively well to take that risk, as an investor. But also that risk has no correlation with financial markets. Whatever goes on in the stock market today or in the foreign currency market isn't going to make the wind blow. It's not going to make the earth shake. And so as a pension fund or an institutional investor, that's a very valuable property to have in your portfolio.
Barney Schauble: So that was the theory in the early 1990s, and over the course of the past 25 years that theory turned into a reality, where there's now something like $100 billion of outside investor capital providing this backstop to the existing insurance and reinsurance industry.
Jason Jacobs: So, what was the biggest change, then, between the reinsurance industry pre-Andrew to the reinsurance industry post these disasters that you were just describing?
Barney Schauble: So really two things changed. One was the ability to quantify this risk. So the advent of computer modeling and larger scale simulations, and more application of science meant that insurance companies and reinsurance companies could get better at estimating the probability of these events. And when you couple that with financial technology, not long after credit card receivables were securitized and mortgages were securitized, if you can take that quantification and take that financial technology of packaging risk into the form of some kind of bond or other financial instrument and sell it to investors, those two things taken together have really changed how risk is supported in the insurance and reinsurance industry. And to be clear, that capital is only coming in to places where there wasn't enough capacity. It's not coming in to right generic homeowners or right marine and aviation business. It's coming in, at least initially, to focus on areas where there just wasn't enough capacity in the existing business. It was augmenting the reinsurance industry rather than replacing the reinsurance industry.
Jason Jacobs: So are there very clear lines of demarcation between ... So there's insurance, and then there's reinsurance. Is there a third category within that we're talking about here where these products to help put the guard rails for the reinsurance industry, is that called a separate category? Or does that still fit under the reinsurance and insurance umbrella?
Barney Schauble: It's really just a form question, rather than an entirely different product. So we have examples where a hotel or a wind farm might buy protection from us directly. That could be in the form of insurance. That could be in the form of some derivative contract. Or we could be selling protection to a government or reinsurance company. So it's less about a new layer to the industry, and more just about providing a different place for some of that risk to go.
Jason Jacobs: And then where does Nephila fit into all of this? And also, it would be great just to get some of the history and the origin story. When and why and how and how you guys got here.
Barney Schauble: Sure. So we fit in today as the largest of the asset managers focused specifically on this space. So we manage about $11 billion. We have a team that's based in Bermuda, here in California, also in Nashville and in London. But the origin story of the firm and the origin story of the overall asset class are very closely intertwined. So after the events I mentioned, Andrew in '92, Northridge in '94, a number of new reinsurance companies formed to try to address this capacity shortfall in Bermuda. And at the time, I was actually in college and wrote my undergraduate thesis on this idea. Could you package risk and sell it to investors, even though it was insurance risk?
Jason Jacobs: And can we stop there for a minute? So, what led you to choose that topic as an undergraduate in college?
Barney Schauble: It was a combination of curiosity and coincidence. So I was always interested in risk and how people thought about odds and investments. But there was a lot of press at the time around different kinds of securitization in broader financial markets. In terms of use of derivatives for hedging, and around the insurance industry. So there were lots of people at the time who were thinking about applying financial technology to insurance. And it just happened that I was an undergraduate looking for a topic, and having time to focus on it. But I wrote my thesis on, if you did invest in something like this, over the course of the proceeding 30 years, do you make any money? And is it truly not correlated to financial markets? That was the intuition, but it was useful to have some young person with free time test the actual math and see if that was the case.
Jason Jacobs: That is not what this young person, the host of My Climate Journey, was doing with his free time in college. So I'm thoroughly impressed and jealous.
Barney Schauble: Well, it was fun.
Jason Jacobs: Maybe not jealous, because I had a lot of fun. But, impressed.
Barney Schauble: It was a fun project to be involved in, just because often nobody's interested in what you're doing as an undergraduate. So the fact that this was a problem people really did actually want to know the answer to was more interesting than most.
Jason Jacobs: Okay, so you did your thesis on it in college. And then what?
Barney Schauble: I joined an insurance broker that was exploring this concept at the time. A broker called Marsh and McLennan. And as it happens, moved from there to an investment bank to help them start a group specifically to say, could you place insurance risk into capital markets. Until we executed the first one of those in 1996. So I was able to work on the first transaction with a group of other people. And that led to more interest in the space. The fact that there was actually proof that you could take this risk and transfer it to investors at a price that was acceptable to the reinsurance company, and a price that was acceptable to investors.
Barney Schauble: So meanwhile at a different broker called Willis, one of my current partners was working there researching the space in the same way, saw the successful execution of the first transaction, and his idea with one of his childhood friends was, if this market is going to grow, investors may not want to select risk themselves. They may not want to evaluate each instrument. They may want to hire a manager who has real expertise, and hire that manager to do that for them like they do in every other specialty investment area. Which today sounds very logical, but at the time that they started what is now Nephila, there were two transactions that had been executed in the market. So they were early, but they certainly had the right idea. And that's how I met them. They were the first organization that was actually buying these securities on a dedicated basis. We were the first team selling these securities. And that's how I got to know them. And years later, when they separated out from Willis, they called me and asked if I would join them as a third partner, and I moved to join them in Bermuda in 2004.
Jason Jacobs: Got it. And then, I guess, compare and contrast, what did the firm look like when you joined back in 2004 and then what does it look like today, and how is it changed? What are the biggest changes?
Barney Schauble: It's changed a lot. I was the seventh person at the firm, the third partner. We were in one room just over a diner, effectively, on a block in Bermuda. And it was still very early on in the adoption of this asset class. We had a couple of dozen investors. We hadn't really seen meaningful testing of this marketplace or growth of the marketplace. So it was very much a startup at the time, albeit a startup in the insurance industry on a rock in the middle of the Atlantic Ocean. And today it's very different. Today we have over 100 employees, we have obviously a lot smarter people now than we did then in terms of our ability to go out and find experts in climatology and statistics and different forms of insurance and reinsurance risk.
Barney Schauble: And it's a much more broadly accepted asset class, period. So at the time it was really only the most adventurous pension funds or endowments or consultants that would look at a new idea. And today, it's a generally accepted investment alternative for pension funds around the world.
Jason Jacobs: And this asset class that you're describing, when you say new, are you talking about across all aspects of risk? Or is that specific to climate and weather related risk?
Barney Schauble: It's really specific to the concept of, can you invest directly in insurance risk itself? And specifically, property catastrophe or weather risk. You could obviously always invest in the equity of an insurance or reinsurance company, or the debt of an insurance or reinsurance company. But when you do that, you're participating in everything that company does, whereas here this was just, the novelty of the idea was extracting just a specific risk. Only if this bad thing happens do you have some sort of loss. You're paid an explicit price for it. And again, that's valuable because it has that true non-correlation associated with it.
Jason Jacobs: And when you started, which aspects of catastrophe and weather were you focused on? And then how does that compare and contrast to where you're focused today?
Barney Schauble: Yeah, that's a good question. And it gets to an important shift in how the insurance industry works, but also how this business has evolved. The earliest focus was on, really, two very large catastrophe risks in the United States. Hurricane risk on the East Coast, particularly in Florida, and earthquake risk. That was where the clearest shortfall existed in terms of the capacity in the existing insurance market. And so catastrophe bonds, which were the first instruments we invested in, were really focused on those areas.
Barney Schauble: And that's evolved over time in two ways. One way is breadth. So a company that has a lot of exposure to Japanese earthquake or European windstorm, it's become a much more broadly accepted tool in the risk management toolkit of corporations, insurance companies, reinsurance companies. But the second is also expanding to cover new risks. Things that weren't conventionally covered in the insurance and reinsurance market. And the most notable of those is really weather. So if you think about operating a hydroelectric plant or building a new wind farm, the biggest source of volatility that you have in the cash flow of your operations is just the arrival of rain or the arrival of stream flow or the arrival of wind.
Barney Schauble: And so expanding the technology out of what you might think of as traditional insurance risks to look at new risks, which are important to address as we think about the changing economy, drought for farmers, low rainfall in Africa or India, expanding to use the same kind of instruments but to address new, not historically insured risks, is a big part of our business, and something that we think is important as we think about how the world is adapting to what the new climate looks like.
Jason Jacobs: And forgive my ignorance, because I don't know the business model of reinsurance in general, but what is the business model of reinsurance in general? And then is that the same business model here, or are there any differences that it's worth pointing out?
Barney Schauble: The core mission of reinsurance is simply to provide protection to insurance companies. Making sure that they can weather any events which they can't diversify against. But really, reinsurance is just an extension of insurance. Making sure that you're providing some resilience or some shock absorber to exogenous events that you can't control.
Jason Jacobs: And there's just an annual fee similar to buying other types of coverage?
Barney Schauble: Exactly. So in many ways you can think about it as just a continuation of, if you live in California and you buy earthquake insurance, you buy that simply because the consequences of that event are large enough that you don't want to pay for it yourself. You need some outside capital injection.
Jason Jacobs: So reinsurance is essentially, it's just insurance companies buying insurance the same way that their customers are buying insurance from them.
Barney Schauble: That's correct. But the whole history of insurance and reinsurance is focused on diversity. More automobiles, more lives, more ships, means that you have a better handle on risk. And you just have a larger pool over which to spread those losses. That works very well. But if you were in a situation where you knew that all the cars could get into an accident at once, that's a problem. You can't diversify away from that. You know that's not the case in auto, but that can be the case in homeowner's. I grew up not far from Boston. If you are an insurer that's diversified all over Cape Cod, you still have in the back of your head this potential that you could have a storm that impacts all of Cape Cod. You can't really diversify away from that exposure. So by buying your own protection from some other source, you obviously enable a more resilient not only company but a more resilient economy.
Jason Jacobs: So from a personal standpoint, what was it so many years ago that led you down the path of choosing this industry as the right place to make your livelihood?
Barney Schauble: I was intrigued by the notion of how different people think about risk. How they think about pricing risk, how they think about markets for risk. If you're taking any sort of traditional economics classes, you wind up focusing on the benefit of having a true market price for exposure, enabling people to make better decisions. But also things that aren't priced in those externalities like pollution, or carbon emission. So I was always curious about how people thought about probability and risk in pricing. And this was an area that there needed to be a broader market. There were either risks that you couldn't buy protection against, so 25 years ago if you were building a wind farm or a hydroelectric plant you had to just hope that you would get the appropriate weather, or there were risks that were artificially constrained. These risks only belong in the insurance market. These risks only belong in capital markets. And the idea of trying to break down some of those barriers and enable a more open flow of capital seemed logical.
Barney Schauble: So watching that unfold over the course of the past 25 years has been heartening in that you're bringing capital to solve either problems where they didn't have a sufficient solution or problems where they had no solution.
Jason Jacobs: So then from a fulfillment standpoint, other than of course the intellectual challenges and the financial benefits of being successful, what are the drivers there that make you feel like there's a job well done, and that you're helping the world?
Barney Schauble: So, one of our investors, years ago described this well. He said, "Most of the time when you're in an investing business, it's a zero sum game. You buy stock in a company because I sold stock in a company. One of us will be right. One of us will be wrong." This is not really a non zero sum activity. The people who buy protection from us, if you have somebody who's running a chain of ski resorts who wants to buy protection against low snowfall, they're not secretly hoping that they're right and that we're wrong. They're simply trying to ensure that they stay in sure if they have a series of outcomes that they can't control. So from that standpoint, you can think about fulfillment in two ways. One is just expanding the way that people can bolster or substantiate the resilience of their businesses, rather than just hoping that they get a positive outcome. But also in a way, even if you do make payouts, which is inevitably going to happen, we've had years where we've paid people on catastrophe risk exposure or weather risk exposure, they're using that then to rebuild their homes. Or to compensate farmers who live in their country. And that just feels like a different type of investment activity than simply fencing with somebody else in the stock or bond markets.
Jason Jacobs: And then in the aggregate, it's probably also just leading to greater economic stability in general, which gives a foundation for a healthy, more durable economy that's going to continue to grow and give prosperity. Maybe not across all the participants, but the mean will continue to grow as a result.
Barney Schauble: That's the hope. And there are certain dislocations that you can look at that happened historically that can be addressed by this. So, for example, after Hurricane Andrew that I mentioned earlier, many insurance companies said, "I don't think I can charge an adequate rate. I'm just going to leave the state of Florida." That means the state itself winds up taking on the risk of those homeowners policies. And if something bad happens, that state then is going to go off to borrow money after the events. That's not a particularly resilient structure to have in place. But if you can bring new capital from outside of the insurance industry to help to address this sort of problem, you're removing that from the state taxpayers and you're putting it into an open market where it belongs.
Barney Schauble: And to pick a different example which is closer to some of the other conversations that you've had in the series of your climate journey, we are now having conversations with people who want to build renewable energy. Build solar, build wind. And the experience that they often have is a bank will say, "I'm not great at analyzing wind patterns in Oklahoma. I'm just going to assume that wind is low, and be conservative when I make you a loan like I would in any other lending case." If we can say, "Well, we do understand at least relatively well the probability that the total wind over a year or two years or five years will be above or below a certain volume, we'll take that risk." The bank then can get more comfortable lending, that project can actually happen, and now you're enabling renewable energy in a place where it may not have happened under a conventional financing scenario. So sometimes it's solving an old structural problem, but sometimes it's enabling the economy to unlock something that we all want to see more of.
Jason Jacobs: And if you look at the types of different catastrophes that could occur, and the types of different weather related events that could occur, and all the different geographies that there are, what is your focus at Nephila? Where is it, where has it been, and then directionally, where do you anticipate that it will go over time?
Barney Schauble: So, there's two different answers. The answer for catastrophe risk tends to be a function of where there's already an existing insurance market. So it's the intersection of hazard and value. So, earthquake in Southern California, lot of hazard, a lot of value. Unfortunately earthquake in the Philippines, a lot of hazard, but no real large-scale underlying insurance marketplace. So it's very difficult to find a way to either have premium come out to pay for protection, or to have recoveries go back to people who need that coverage.
Barney Schauble: That's starting to change, because institutions like the World Bank and others are trying to intermediate in those cases and encourage Mexico or Uruguay or the Philippines or other countries to, at a sovereign level, buy protection. But generally speaking, the insurance and reinsurance market and catastrophe risk, it tends to be driven by the health of the existing financial system in those countries. So the exposure that we take is disproportionately in developed markets rather than developing markets.
Barney Schauble: For weather risk, that's less the case. Partly because most, the insurance industry's been around for hundreds of years, but protection against weather risk explicitly is still a relatively new concept. It's only been around for the last 20 years or so. And rather than insurance, which is typically based on going to the property, evaluating the damage, making a payment on that basis, which is quite infrastructure intensive, weather protection can be based just on an objective variable. So for example, we work with a tech startup in Africa, and we also work with some governments in Africa where the way their risk protection works is looking at the amount of rainfall as measured at a specific station. And that, you don't need all of the insurance infrastructure for. That, you can simply say to either a small subset of farmers, which is what we do through the tech startup, or to actual governments, which is what we do through a different World Bank program, if rainfall is below this threshold, you'll receive a payment because this is impacting the agriculture in your country.
Barney Schauble: So for catastrophe risk, most of the exposure has been in developed economies, particularly the United States and Japan. But for weather risk, it's much more evenly distributed around the world. Still in countries that have more sophisticated financial systems, Australia, India, certain parts of Africa. But it's a little bit more open in terms of development where you can apply those measures.
Jason Jacobs: And what about the types of catastrophes?
Barney Schauble: That's been pretty consistent. Hurricane, earthquake, obviously are the two largest scale types of exposures. But it's also changing. As we know very well here in California, the emergence of wildfire as a catastrophe risk, that is certainly more serious than it was 10 or 50 years ago, is an issue that we're also trying to address.
Jason Jacobs: And when you think about the ability to deliver these products in a way that is high quality and stable and makes smart business sense but isn't gauging, essentially just whatever doing it right means, what skills go into that and how much of that is human skills? How much of that is using technology? How much of it is in-house? How much are you doing through partners? I'm just trying to get a flavor of what's required to actually make this business work.
Barney Schauble: It's a mixture of all of those things. You clearly need the technology. You're dealing with large scale data around exposures. You're dealing with large simulations of what could conceivably happen relative to history. So there's a decent amount of underlying just science and technology foundation. There's also some requirement for infrastructure. You can't simply, you have to figure out what kind of contract are you offering to whom, how does that work in that jurisdiction. Offering an insurance contract to somebody is very different from a regulatory standpoint than a reinsurance contract or some other form of contract. But ultimately it's a judgment business. If you are an insurance underwriter or a reinsurance underwriter or an investor, in the case of Nephila, you're weighing your best estimates that come out of the technology with what the market conditions are and trying to make sure you balance the needs of investors. Our clients are investors who are saying, "We trust you to put capital to work in a way that will make some return over time." But also at a price which makes sense in the marketplace, where people can buy the risk transfer that they need.
Jason Jacobs: How many years out do you need to look in terms of that forward-looking projection?
Barney Schauble: That's starting to shift. But historically, insurance and reinsurance protection have always been for one year. Most companies, most individuals, and even most insurance companies or governments tend to buy year-out protection. That's starting to change. And we and others have helped to change that by offering two year or three year or longer term type of contracts. Because obviously you're talking about longer term exposures. The trade-off there is that the uncertainty increases as you move out in time. Depending upon what kind of risk you're selling. But historically, the basis of the industry, the starting assumption, is that protection will always be for one year.
Jason Jacobs: And how often are you refreshing the set of assumptions through which you do things like determine the rates?
Barney Schauble: All the time.
Jason Jacobs: Ongoing?
Barney Schauble: Ongoing.
Jason Jacobs: So that's a living, breathing, real time thing. It's not like once a year you go through a planning process. But that's actually just, if I requested a quote today, could it be different tomorrow?
Barney Schauble: Day to day it's a little harder to adjust. But some days you have to adjust. You have an earthquake outside of Tokyo, the day after the earthquake the risk in that region is very different than the day before. So one feature of this kind of marketplace is it's not like the equity market, where every day things are moving and things are changing. There is some more stability. You don't have a wildly different expectation of an earthquake today versus tomorrow. But sometimes, something can happen which will change those probabilities. And this is a real challenge for the insurance industry, which is, in most markets, we assume that prices can float. But in most states in the United States, for example, there's a very detailed and rigorous process around, what can you charge to a business for its property insurance? And if that business is located on a river that you know is going to flood periodically, or located in a glass building on the coastline, it can be difficult for insurance companies to be able to adjust prices to reflect those risk differences in a highly regulated environment.
Jason Jacobs: So if you just look at the patterns as it relates to catastrophes and weather, what types of changes, if any, have you observed over the last one year, two years, five years, 10 years since you've been in the business, and what types of changes and where are most pronounced?
Barney Schauble: The change that we've observed obviously varies a lot by geography, by peril. And because of the nature of the protection that we provide each year, you do have the ability each year to assess. So for example, what are the conditions in the Atlantic Ocean this year relative to the conditions in the Atlantic Ocean last year? And that can be a factor that you use in determining the right price. The market would struggle to price 30 year transactions or 10 year transactions. But for one year and two year and three year transactions, you have the ability to adjust.
Barney Schauble: So for example, in England, or in Europe more broadly, we have been in the business of selling protection to utilities. Utilities, if the winter is very warm and nobody turns their heat on, just don't receive revenue. In many cases they've already paid for the gas which is the input to their heating, and therefore that's a financial challenge for them. Five of the last six years in Europe have been meaningfully warmer than average, whether you look at the 10 year average or the 30 year average or the 50 year average. And that leads to recalibrating pricing. We have a conversation with those companies saying, you and we can see this trajectory. The good news is it's very public information. There's no secret around temperature. What was the temperature in London today, tomorrow, last winter, the winter before? And you can look at that shared set of statistics and say, "Clearly the risk is different than it was 30 years ago, and that's going to have to be factored into your business assumptions, but also our pricing assumptions."
Jason Jacobs: Is it pretty much business as usual in terms of ... So not the business of reinsurance. I get that that's been evolving a lot, right? But I'm talking about the actual planet. Observable as it relates to your work, are things more or less the same old, or have you noticed anything that's changed meaningfully and, if so, what sticks out to you?
Barney Schauble: Sure. So if you think about three components to the risk that we take. One component, earthquake, obviously just doesn't change as a function of climate change. One component, hurricane and everything around hurricane, flooding, storm surge, does change. So you've seen the behavior of certain kinds of storms, intensity of rainfall, how quickly they intensify, how slowly they move. The difficulty is parsing out how much of that is natural variability. Each storm is different. If you look at Michael and Irma for example that both hit Florida, one was a very small tight-moving storm, one was a very large slow-moving storm. So it's impossible to separate out exactly how much of that is just the difference between two atmospheric systems, and how much of that is the difference between those storms today and if they'd occurred 50 years ago.
Barney Schauble: But that segment of the business, looking at what is going on with the formation of Atlantic hurricanes and Pacific typhoons, obviously the dynamics there are changing and that's something that we pay a lot of attention to year on year. But also over time.
Barney Schauble: And then if you look at weather more broadly, temperature, rainfall, snowfall, there it's very specific to the geography that you're looking at. If you're looking at temperature in Phoenix, the trend is different than if you're looking at temperature in Boston. Or if you're looking at snowfall in Vancouver, the trend is very different than if you're looking at snowfall in Colorado. So there, the important part is just to stay on top of the data as it evolves, and make sure that you're factoring in whatever the trend may be in the specific place for the specific variable that you're covering.
Barney Schauble: And in some cases, that's positive. If you look at solar and the trend in temperature and the trend in solar, that's a positive trend for the financing of solar in that you generally are expecting more radiation over the next 10 years than you would have seen over the last 10 years.
Jason Jacobs: One narrative that just, as a regular person, that you tend to read in the media a lot is that we are historically, there's been a period of time that humans have been on the planet, right? Where we've had this unique set of circumstances that have led to quite a bit of stability. And that because of the carbon that's in the atmosphere, and the excessive and increasing levels of carbon that are in the atmosphere that we're increasingly, in a human-caused way, but whether it is or it isn't, it almost doesn't ... It's human caused, but also we're entering a period of much less stability. Do you think that narrative is overblown, or are you seeing that in the data?
Barney Schauble: You can certainly see signs of volatility in the data. And again, it depends upon exactly what you're looking at. But there are some places where the change is pretty meaningful, and there's some places where it's less so. From our position, as somebody who's trying to offer risk protection, on the one hand that means more people are seeking protection. More people are looking at the volatility of their business, disclosing the impact of change, and therefore are thinking about, what can I do? Both operationally, can I move this warehouse from the coast to inland, but also what can I do financially to protect myself against a more extreme event? So there's more demands that arises out of volatility, but then you also have to make sure that you're factoring that volatility in when you're pricing. So I don't think anybody would argue that today's regime for looking at statistics or looking at volatility is the same as it was 10 years ago or 50 years ago or 100 years ago. But it's trying to look at today's set of circumstances and figure out what does that mean to the probability of the event against which you're protecting, and what does that mean for the price that you then have to charge?
Jason Jacobs: I think a related narrative is that certain regions or parts of the world will become not only more difficult to habitate but also potentially uninsurable. Are you seeing any of that today? And whether you are or you aren't, how concerned are you about that becoming a real possibility in the future and in what time frame?
Barney Schauble: That's clearly going to happen. And you've seen it in other places. You've seen the reaction of the insurance industry to certain kinds of events has been, like any other asset class, to withdraw after some meaningful exposure. So whether that's an event in California where a lot of California companies say, "I'm not sure how much I want to offer earthquake or wildfire anymore," or whether that's changes in sea level rise where people can point to on a map, these are areas which are going to become more and more difficult, either to live in or to insure. The tricky part has been, I think for typical insurance companies, they don't necessarily have a lot of levers to pull. It's not a free floating market for price. You can't go back to somebody who has flooded out in Hurricane Sandy, for example, and say that the price goes from $1 to $5. That's not typically allowed, regulatorily. So often what they find is the only switch that they have is to be on or off. And we're much less in that primary insurance market. But when you think about insurability, particularly around things like flood or things that are changing over time, there aren't a lot of degrees of freedom that insurance companies typically have. And that's unfortunate because that means that that risk usually winds up back at some state or government backed level.
Barney Schauble: And so if you look, for example, most states on the East Coast over time had a fair plan or a residual plan which was, when I was growing up, sort of the last resort for somebody who could not get insurance for whatever reason. It might be a tiny percentage of the overall insurance market. And what happened over the course of the past 25 years or so was that in many cases, insurance companies would stop writing in certain areas that they felt were more threatened and the state winds up inevitably taking on more of that risk. Now, a lot of the states have become more thoughtful about this, particularly in the last 10 or 15 years, and worked with people like us or other insurers or reinsurers to try to adjust their structure and their pricing to make sure that there's a private market answer, not simply relying upon taxpayer funds. But you have certainly seen that in the past. I think the danger is that if insurance companies feel like their only option is to turn on or off coverage, then the people who are in areas where you're seeing the most dramatic change wind up either depending up on government support or not having any coverage at all.
Jason Jacobs: And the increase in volatility that we've been discussing, obviously from a second or third order effect, I mean, we're all humans and we want to have a livable planet and so it's bad for our species as that volatility increases. But if you just look at first order, is that a good or a bad thing for your business, directly?
Barney Schauble: It's really just a function of price, right? You can hear people complain in the equity market, or complain in the foreign currency market if nothing is happening. And everybody knows what's going to happen tomorrow. And it's flat. That's not the ideal circumstances for investment. But by the same token, too much volatility also makes it very difficult to gauge what's the right price of risk. I think that's true in any marketplace. If somebody had a crystal ball tomorrow that said, no hurricanes will hit these five states, that wouldn't be good for our business. It would be good for the people who are in those states. But by the same token, if you know that every year a hurricane is going to hit every state, then that causes you to revisit, what's the right price to charge for that coverage?
Jason Jacobs: And I mean, if you put aside the work at Nephila and even the reinsurance industry overall, and we just talk kind of human to human, how concerned are you about climate change?
Barney Schauble: It's definitely something that I'm concerned about. My family and I are concerned about. You mentioned at the outset being with Alicia Seiger earlier this summer. That's because she and I both serve on the board of Ceres. So I've been involved with them for almost 10 years now.
Jason Jacobs: And for listeners, what's Ceres?
Barney Schauble: Ceres is a non-profit based in Boston. It's been around for almost 30 years. And it's dedicated to sustainability in capital markets. It effectively convenes two networks. One network is of companies who are thinking a lot about how to operate more sustainably, and the other network is investors who are thinking about long term, how do they address the issue of climate change and sustainability in their portfolios. If you're a very large scale pension fund, for example, and you're thinking about, what is the impact on my investments for my pensioners over the course of the next five, 10, 50, 100 years, obviously you're thinking about, how does this risk impact what the future looks like?
Barney Schauble: And one of the reasons that, I've really got involved with Ceres for two reasons. One of which was my concern about climate change and thinking about the future and what does that mean. But also because their approach is very much a market-based approach. How do you go to actors in these situations and get them to focus on better disclosure, better risk management practices, better policy, at a state level, at a federal level, at a global level, to make sure that these signals, because they're important signals like any other market signals, are being considered when people make decisions. Whether that's, where do you build a building and how you think about the relative riskiness, or whether that's when you make an investment in a company or in a country that you're thinking about, what does the future look like? Not just what has the past been like in that place.
Jason Jacobs: And so, I mean, you're concerned about it, and so you're working with Ceres as a way to help. Talk a little more about that concern, though. Are you optimistic that we're going to get a handle on this? And how bad do you think things could get in the interim as we're working through this transition?
Barney Schauble: So I know you've talked about this with some of your other guests. Trying to find the right balance between concern. Because obviously there's lots of grounds for concern, as you say, as a human and as a participant, and all of these components of our economy. But also, there's room for optimism. There's more people who are thinking about and addressing and exploring these topics than there ever have been. And so I find it, again, heartening that if you look at the lists of companies who support the Environmental Defense Fund and Ceres and policy initiatives, it's longer than it's ever been, it's more public than it's ever been. The Pope convening the heads of oil and gas companies and saying to them, "Sign this commitment that you believe you're going to be able to make changes in the core of your business." Those are not things that we saw 10 years ago or 20 years ago.
Barney Schauble: But the pace is the biggest problem. How rapidly can you move? And how swiftly can we collectively make the sorts of changes that we need to.
Jason Jacobs: And how much of it's already baked in? Because the carbon's already up there, right? And it's going to be up there for hundreds of years. So I mean, there's also just a question of, no matter how dramatically we get our act together at this point, in the coming years and decades, there's going to be some measure of meaningfully worse symptoms no matter what we do. Right?
Barney Schauble: Absolutely. But, personally, I don't feel like that then translates to not having to focus now on what we can do. And as you say, that trajectory is already baked in. There's very little that we can do to control it. But what we can do is take as much action as we can to bend that trajectory back down, or blunt the impact of that trajectory through all the different mechanisms of the kinds of people that you've been speaking to. Whether that's technology, policy, investment strategy. And so from our standpoint, even as an investor in this space, one of the reasons why we're excited about the impact that we can have is outside of just protecting people who are exposed to volatility, also, enabling investment, like the renewable energy example that I mentioned, or providing protection for municipalities who are concerned about volatility of snowfall. And the cash flow that comes with that that's unexpected, that they can't spend on other services or other resilience. The more effective shock absorbers you can create to help buttress a little bit of the volatility that's coming, and to help to insulate people from the truly extreme outcomes, the more that we will have time to try to address the impact of the trajectory that we're on.
Barney Schauble: So I definitely agree with you scientifically, but it's all the more reason to focus on this whole array of things that we know we need to do.
Jason Jacobs: And how far out can you confidently look from a projection standpoint in your areas of focus? And what are the biggest levers that could extend that further?
Barney Schauble: It's getting better, how far out one can look. And that's really driven by two things. One is driven by just greater availability of data. So even at the beginning of my career, if you're looking at weather information or earthquake information or hurricane information, you are very dependent upon a sort of spotty historical record at specific locations. And now, obviously, satellite imagery, cell phone towers, you're capturing a much greater granular variety of information. So if you're looking at, for example, a wind farm and where you're building a wind farm, you're not simply saying, "Well, at the airport, 50 miles from here, it's kind of been windy. So hopefully that will serve as a good proxy." But instead you can recreate effectively 30 years of wind at that site in some sort of way that you have some confidence in. So that is very helpful in terms of improving the projections going forward.
Barney Schauble: And the second is that you're getting much better disclosure from businesses and from governments on what their exposure really is. So efforts like [inaudible 00:47:55] and the TCFD, efforts on behalf of large investors or policymakers who are saying, "I want to understand better what you're exposed to and what you're not." And using technology, in many cases, to amplify that or to illuminate that in a way that you couldn't see before. All of the tools that are available to anybody with an internet connection to look at, what does the IPCC think? Where do you think the water will be? What models are available from public and private institutions to actually see and evaluate future scenarios? Again, those are things that weren't really accessible or available, historically, in the way that they are today. And all of that helps not just us but really anybody with access to those tools to have a finer sense as to what they can expect. It's not perfect by any means, and it still only goes out to some level of credibility at some period of time. But at least you do now have companies who are saying, if you want to understand as a state government five years from now, 10 years from now, 30 years from now, what some range of impacts could be to you, those are scenarios you can at least take a look at and be guided by.
Jason Jacobs: So as an overall industry, is insurance a leading indicator of climate risk or a lagging indicator of climate risk, and why?
Barney Schauble: I wish it were a leading indicator but I don't think that it is. At an industry level. I think there is an assumption and a hope, on behalf of many market participants, that it should be leading. Who would be thinking more about this than insurance? And don't get me wrong, there are smart people in the insurance and reinsurance industry who are thinking about this. But generally speaking if you think about three dials that insurance companies can turn, their internal operations, do they change their light bulbs or do they decrease their carbon emissions footprint. Their asset portfolio, because they're all, or often, large investors, and then their risk portfolio. They tend to be much more focused on the first two. They're easier.
Barney Schauble: But looking at your existing portfolio and trying to reprice it or looking at the products that you have and thinking about, what are the implications for those products, those are difficult tasks for big companies to take on. And there aren't a lot of incentives, either, on behalf of their shareholders or on behalf of their regulators to go and visit that. That's changing with, again, the task force on climate related financial disclosure or the bank of England or others who are really pushing, Lloyds of London, really pushing insurance companies to look at their risk portfolios and think about the future. But that's really been more the result of external pressure than it has been the result of an internal desire to lead. Because it has existential implications for the industry. And consumers in particular are very sensitive to the political topic, particularly here in the United States, but also to price sensitivity. You see after Sandy, Congress trying to pass a law that would have updated flood maps to reflect more recent public information. And an inability to pass that legislation, because it would have resulted in more expensive coverage for people who live in flood zones. So there are a lot of dynamics at play that I think challenge the insurance industry's ability to be a leader.
Barney Schauble: I think the opportunity certainly exists. And the opportunity to provide new products in the agricultural space, in the renewable energy space, in many other forms, certainly exists. But at the moment, I think the industry is grappling with this question.
Jason Jacobs: Do you feel like this plays out with the big tanker ship of an industry slowly turning and eventually turning and it's gradual, gradual, gradual, incremental, incremental, incremental? Or do you think there's going to be a big shakeout at some point in time?
Barney Schauble: I think both things will happen. And I guess I would say two things. One is, in addition to those two dynamics, the tanker shift and the shakeout, like in many other industries I think you see the formation of new kinds of boats, right? There'll be much smaller more nimble startup type companies that come in who are more able to steer and are able to start with the benefit of a fresh portfolio and a fresh perspective. And challenge some much older company that has a much harder time steering or shifting just by nature of their size and legacy systems and legacy perspective. So I think those new entrants will be a critical part of the industry.
Jason Jacobs: What are some criteria that you think they would bring that don't exist in the industry today? And are there any examples of companies out there that are those types of new entrants that you're excited about?
Barney Schauble: So the other thing I was going to say-
Jason Jacobs: Oh, sorry.
Barney Schauble: Which I think supports this. No, no, it's a good question, and I'll address it. I think it's not limited to the insurance industry, right? The banking industry is the same. How many banks are really in the loans that they're making, thinking about the implications of climate change? Or how many buyers of municipal bonds where they're lending money to a water utility in a very hot state and lending money to a water utility in a cooler state, are thinking about that? So I think that challenge exists across the financial services industry.
Barney Schauble: But these newer companies, whether you're ... They all have the advantage of new technology. But they also have the advantage of starting fresh. So one example of somebody who's done something like this in the insurance industry are these new telematics based insurance companies. Rather than charging you per year for your auto insurance coverage, they charge per mile. So you have the advantage of tailoring to the risk profile of each individual driver. But you also create an incentive system, which is if you know that every mile that you drive you're paying a little bit more, that may creep into your decision making process around, should I drive to LA this weekend on my own or should I go with four friends and we'll share the impact of that from a carbon standpoint, and from a pricing standpoint?
Barney Schauble: I think there are similarly insurance companies who are specifically looking at flood and saying, I'm only going to offer flood to certain kinds of companies in certain kinds of locations, but are really offering an explicit price in a way that may be harder for an existing company that's just writing general commercial insurance to do. So all of those I think will help inform the change of the industry. And I think the same is true on the lending side. Moody's Rating Agency buying recently a company that specifically focuses on thinking about climate change impact on businesses, 427, I think all of these are examples of some combination of new entrants, new perspective, and the old industry trying to shift its way of thinking. But I think it will lead to a shakeout. I don't think that it's going to be a concerted, clear, strategic shift by the industry. I think, like all of these large scale changes, you'll see real winners emerge in the insurance sector and in the banking sector. And people who really don't go through this next period and thrive.
Jason Jacobs: The next question is more of a general climate question. I know it's not your ... You're not tasked with solving climate change, you're tasked with building this company. But I don't know how much time you spend, or if you have well defined views in terms of what some of the most impactful things are that we could do. And I don't mean we, you and I, I don't mean we, the US. But just in general. If you kind of step outside of the planet and you're looking down on it, right? What are the most impactful things that need to happen in order for us to move most expediently to get this problem under control?
Barney Schauble: The good news, I think, is that thinking about that question as a society clearly over the course of the past couple of years, there's been much more discussion around the answer to that question than there was before that. It feels as if people are coalescing around at least some big pillar components to the answer to that question. One of which is new technology and trying to seed and develop new perspectives and new ways of thinking about this, whether it's new energy generation technology or efficiency technology or storage or agriculture, but some component has to be investing in ideas around, how do we do things differently than we've done them historically?
Barney Schauble: Really pushing forward on how we consume energy. Changing renewable energy, changing and shifting to renewable energy in particular, I think, is a huge part of that solution. And again, I'm encouraged by the fact that we talk to a lot of companies who want, explicitly, to buy renewable energy. That are helping to finance these wind farms and solar plants. And they feel like this has to be the future for their shareholders, for their stakeholders, for their employees, pushing them in that direction. Rather than it being a policy mandate, but simply being a desirable business outcome for them.
Barney Schauble: And I do think there's a policy component. Again, it's hard, now, to find many people regardless of political persuasion or employment or geography who don't feel like there should be some actual price associated with carbon. And whether that's a tax or a fee or a cap in trade, those tactical details will take a lot of people's energy. But the idea that this should continue not to be priced in any way I think is going away. And again, even going back to that Pope's statement that he had all of the heads of the oil and gas companies sign an agreement on some price on carbon as an important part of that. And I think you're seeing that at a country level, at a state level, many businesses are already using some sort of internal price on carbon to make decisions.
Barney Schauble: So something around exciting new ideas, many of which are risky, something around policy. Something around renewable energy, broadly. But then the most important component, I think, of being in the risk business and being involved with a variety of people who are looking at capital markets and climate, is really just incorporating that into decision-making. Making sure that capital markets' activity generally, whether you're buying a company, lending to a company, investing in the stock of a company, writing protection against that company, that the impact of climate is factored into all of the decision-making. And not just for an ESG fund or not just if it's a mining company, but all across all of that level of activity where you're evaluating future risk and return that this is now part of that deliberation process.
Barney Schauble: And I think that's one of the harder components. It's easy, around a specific policy, or around a specific industry, to focus people's attention. But to have it be a much more mainstream part of all capital markets discussion, which is really what drives decisions around not just investment but location and allocation of resources, we're definitely not at a point yet where that's common practice. It still is an unusual additional thing to add in. And I think that will be a huge factor in achieving the kind of sustainable economy we need to have.
Jason Jacobs: So if someone offered you a big pot of money, say $100 billion, and you could allocate it towards anything to maximize its impact in the climate fight, where would you put it and how would you allocate it?
Barney Schauble: I think those four areas are important. If you think about it as a portfolio, the riskiest end of that portfolio would probably get the least amount of that capital. You take 10% or 20% of that and invest it in truly new ideas, many of which may not work. Investment in the policy side is important. Investment in renewable energy and a more sustainable grid is important. But really driving in some way, and it's hard to know exactly how the investment can make this happen, but really driving in some way a change in the behavior, moving this up the agenda of decision-makers at board levels, at running companies. I think that will have the longest lasting type of impact.
Jason Jacobs: Many of the people listening to the podcast are people like me who are concerned about this problem and want to help but don't necessarily understand the problem or know how to help or where to start. So what advice do you have for them as they try to figure that out?
Barney Schauble: Well, there's obviously a wealth of resources, including this process that you're going through yourself, that are now available to people to learn more. And I think that's usually step one, is just getting a better understanding of what is going on across whatever sectors of the world are of interest to you.
Barney Schauble: The second, I think, is really just making it part of an active dialogue. I think many people just don't really, are unsure of the best way to talk about this at their place of work or with their family or in their community. And as somebody whose life is in and around the space of weather and climate, people wind up asking me about it I think more than would be typical. And I find that's a really healthy thing to do. It can feel awkward or feel difficult, but everybody is aware of the fact that this is an important topic and just mentioning it when you're in casual conversation or talking about, what do other people think about it, making it more of the mainstream conversation rather than a topic that's hived off to one side, only to be had if you're having either a political fight or a discussion with a scientist, I think is unhealthy. I think just making it more a part of the debate.
Barney Schauble: The smartest people that I've met who care a lot about this topic just try to bring that to what they do, whether that's they're running a business or at a school or with their teammates on a team, or people they're vacationing with, is just talking a little bit about, what can we do? What do you think about this? What are you doing? How do you think about the implications of this in terms of the different parts of your life? So, rather than picking a specific cause or a specific effort to support or a specific investment idea, I think just making it part of mainstream conversation. It's an unavoidable challenge that we're all going to be grappling with for the rest of our lives. And just speaking about it as something that is an inevitable part of our day to day life, I think, is a powerful force.
Jason Jacobs: Anything that I didn't ask that I should have, or any parting words for listeners beyond what we just talked about?
Barney Schauble: I wish that I had sort of a pithy parting words for listeners. I think that from my standpoint, both in my role as a Ceres board member but also in my role here at Nephila, I just think that this is a truly important topic for our time. But it's also a topic that offers a challenge and an opportunity for all of us. There's an existing sustainable economy that we can continue to try to encourage its development, and there's a future sustainable economy that is achievable. It just takes some work and some preparation and some good luck. But as somebody who's in this risk business, I definitely feel that this is not an insurmountable challenge. It's just a question of getting access to the right information and making the right decisions.
Jason Jacobs: Well, whether you know it or not, I think that was actually pithy parting words. So Barney, thanks so much for coming on the show. I feel like I should pay you a tutoring fee for your reinsurance 101 lessons.
Barney Schauble: Well, I appreciate the time, and thanks very much for everything that you're doing to make sure that people can learn more about what we're challenged by.
Jason Jacobs: Thanks again.
Barney Schauble: Thanks.
Jason Jacobs: Hey everyone, Jason here. Thanks again for joining me on My Climate Journey. If you'd like to learn more about the journey, you can visit us at myclimatejourney.co. Note that is .co, not .com. Someday we'll get the .com, but right now, .co. You can also find me on Twitter at jjacobs22 where I would encourage you to share your feedback on the episode or suggestions for future guests you'd like to hear. And before I let you go, if you enjoyed the show, please share an episode with a friend or consider leaving a review on iTunes. The lawyers made me say that. Thank you.
