Climate-driven weather events pose a risk to municipal bonds, commercial real estate and utilities, BlackRock says
Energize Weekly, April 24, 2019
Among the economic threats posed by climate change are risks to municipal bonds, commercial real estate investments and the utility sector, according to an analysis by BlackRock and the Rhodium Group.
“Our work with Rhodium Group shows a rising share of U.S. metropolitan statistical areas (MSAs) will likely be hit by climate change in the coming decades,” Brian Deese, BlackRock’s head of global sustainable investing, said in the report’s introduction.
BlackRock is the world’s largest asset management firm with $6.5 trillion in assets. Rhodium is an economic data analytics firm.
Using projections of how temperatures will rise in the U.S., the study calculated that 58 percent of U.S. metro areas will probably suffer an annualized GDP loss of 1 percent or more by 2060-2080 if no action is taken to stem greenhouse gas emissions.
“Among the likely losers: Arizona, the Gulf Coast region, and coastal Florida,” the study said. “A handful of colder states see potential for modest GDP gains.”
Disney World in Orlando, for example, could see the average number of annual days with extreme heat spike to almost half the year.
The study took this broad trend and honed in on the potential impacts of three economic elements: municipal bonds, commercial real estate and the utility industry.
“Extreme weather events pose growing risks for the creditworthiness of state and local issuers in the $3.8 trillion U.S. municipal bond market,” the report said. “A rising share of muni bond issuance over time will likely come from regions facing economic losses from climate change and events linked to it.”
Commercial real estate and commercial mortgage-backed securities (CMBS) will become increasingly vulnerable to severe weather, especially hurricanes and floods.
“Our analysis of recent hurricanes hitting Houston and Miami finds that roughly 80 percent of commercial properties tied to affected CMBS loans lay outside official flood zones—meaning they may lack insurance coverage,” the report said.
For the utility industry, its aging infrastructure will increasingly be exposed to “climate shocks,” such as hurricanes and wildfire.
The report assessed the risk to 269 publicly listed U.S. utilities based on the location of their plants, property and equipment, and concluded that risks are underpriced.
Natural disaster-related incidents with losses of $1 billion or more have been steadily rising since the 1980s, hitting a record $144 billion in insurance-related claims in 2017 and when uninsured losses are added in, the toll rises to $337 billion, according to Swiss Re data.
Wildfires alone caused a record $21 billion in damages worldwide in 2017, and three hurricanes—Harvey, Maria and Irma—caused losses equivalent to 0.5 percent of U.S. GDP.
The BlackRock-Rhodium report tries to assess how such loss will impact municipal bonds, commercial real-estate investment and utilities.
The analysis concludes that within a decade, more than 15 percent of the current S&P National Municipal Bond Index, by market value, would come from metropolitan areas suffering an average annualized economic loss from climate change of 0.5 to 1 percent of GDP.
As much as 26 percent of U.S. metropolitan areas could see more than 100 days a year of 95 degrees Fahrenheit by 2060 to 2080, compared with about 1 percent today.
This, the analysis said, would have “important knock-on implications.”
- Lower productivity in regions that rely on outdoor labor such as agriculture and construction work
- Rising mortality rates as the incidence of extreme heat rises in hotter states such as Texas
- Greater energy expenditure to cool buildings, particularly in the U.S. Southwest
- Lower agricultural output due to declining crop yields in hotter states such as Arizona
Sea-level rise is a threat to coastal metro areas. A projected 3-foot sea-level rise by 2080 would expose about $73 billion in New York City property to potential losses. Hurricanes could trim as much as 3 percent off Miami’s GDP.
The cost of cleanups, higher insurance premiums and losses to the tax base are some of the adverse impacts governments will face that could affect their bonding.
“Credit rating agencies are paying increased attention to these risks,” the report said. “Moody’s in 2017 warned that climate change would have a growing negative impact on the creditworthiness of U.S. state and local issuers—particularly those without sufficient adaptation and mitigation strategies.”
The report said that storms and flooding are the two biggest threats to CMBS portfolios, noting that many assets underpinning these portfolios are in regions vulnerable to increased storm activity.
New York, Houston and Miami made up one-fifth of CMBS properties by market value in the Bloomberg Barclays Aggregate Index as of March 2019, the analysis said.
Hurricane Harvey, a Category 4 storm that hit the Houston area, affected more than 1,300 CMBS loans—about 3 percent of the market.
“Extreme weather risks already threaten utility stocks—and are set to rise in frequency and intensity over time—but are not fully priced in,” the analysis warned.
“To measure this embedded risk, we evaluate the impact on company valuation that results from an extreme weather event,” the report said. “If investors believe utilities have fully mitigated their exposure to climate-related risks, then stock prices should not react to the event.”
The analysis, however, found that stocks for a utility hit with a severe weather event tend to come under pressure for about 40 days after the event and suffer about a 1.5 percent loss relative to the sector index. Eventually, the stocks of these utilities converged with the index.
“We conclude that climate-related risks are real for utilities, but mostly not priced in,” the report said. “This has important implications. Overweighting companies with low climate risk exposure and underweighting those with high exposure may pay off as the risks compound over time.”