FEATURE: The market for carbon credits is looking an increasingly lucrative one for insurance players

Quantum Commodity Intelligence – The voluntary carbon market (VCM) is a risky business to be in, particularly if last year's raft of mainstream media criticisms of the sector are to be believed, yet tackling industry risks is the main focus of an increasing number of companies that are offering or planning to offer insurance products to VCM participants.

Insurance is not new to carbon markets. For instance, there was coverage for the issues that could lead to non-delivery of carbon credits from the Kyoto Protocol's market mechanisms over a decade ago, but until recently the VCM had not attracted such products. But that changed in September 2022 with a group of companies announcing what they called a "world's first" deal to provide cover for carbon credit invalidation in the VCM.

International insurance broker Howden, advised by climate risk finance company Parhelion Underwriting, worked with carbon finance business Respira International and reinsurance risk investment manager Nephila Capital to develop the product, which aims to increase confidence in the VCM by covering third-party negligence and fraud.

Since then, a number of specialist companies have been set up offering different types of coverage to the VCM, while insurance industry giants are also entering the space. And the market for VCM insurance could be big business come the end of the decade, if projections in a report released earlier this month come to fruition.

The report – 'Gross Written Carbon: Are carbon credits the next billion-dollar insurance market?' – by insurance management consultancy Oxbow Partners and carbon insurance company Kita estimates a market of $1 billion in annual Gross Written Premium (GWP) in 2030, rising to $10-30 billion GWP by 2050.

"The forecast may even underestimate the potential scale of the market; for example, the calculations are solely based on the voluntary carbon market even though the VCM and compliance markets are expected to converge, which would significantly increase the market size," the authors said.

However, the report noted that there are several key challenges that need to be overcome, such as a lack of data and shifting markets, if the insurance market for the VCM is to reach the heights estimated by the authors. Here Quantum takes a look at some of the products that are currently being offered.

Howden

The insurance product unveiled in 2022 is wrapped around books of independently-verified, high-quality carbon credits, and was incubated through the product innovation work stream on the Insurance Task Force of the Sustainable Markets Initiative. Howden said at the launch that the potential fraud risk lies with the project developer, their contractors and agents, including the validation and verification bodies.

"For example, they could have defrauded the standards registry and the eventual buyer by falsifying title documents or overstating the calculation of the carbon removal, or there could be an underlying fraud in the corporate structure of the project developer," the company said.

The product protects the owner of the offsets or the insured, if there turns out to have been fraud or negligence that means there has been an over-issuance or there is effectively an impairment on the quality of the carbon offsets.

Earlier this year, Howden launched a product to cover the leakage of carbon dioxide (CO2) from commercial-scale carbon capture and storage (CCS) facilities, which the company said will help to unlock investment needed for net zero greenhouse gas emissions goals. The insurance provides cover for environmental damage and loss of revenue arising from the sudden or gradual leakage of CO2 from CCS projects into the air, land and water.

"The financial viability of CCS projects often relies on revenue from the voluntary and compliance carbon markets. This new form of insurance covers liabilities arising from carbon credits and allowances, including UK and EU ETS [emissions trading scheme] liabilities," Howden said.

Aon

A few weeks after Howden's invalidation risk product came to market, global financial services giant Aon announced it was partnering with developer Revalue Nature to offer insurance products for nature-based projects in the VCM. The insurance solutions aim to help de-risk nature-based projects by offering cover from damage and destruction due to natural perils and other risks, such as environmental liability and political uncertainties.

Last year, Natalia Moudrak, head of North America at Aon Climate, told Quantum the company's aim with the insurance is two-fold – to improve integrity and to unlock greater access to capital that can support high-quality carbon projects development. "This includes bolstering investment into areas where some investors may not have widely ventured, but where support for projects could be needed the most, such as in emerging markets," she said.

Moudrak added that as insurers and reinsurers assess risks and go through the underwriting process, they provide a "second set of eyes" on projects. "So, having insurance in place for these projects can help with building more confidence in voluntary carbon markets and fuel greater investment," she said.

The most common concerns that Aon's clients seek help to address fall into five main categories.

They are: natural disaster risks, such as forest fires, droughts and windstorms; environmental risks, including pest infestations, disease and pollution; political risks, such as nationalisation, asset expropriation and other government actions that may result in revenue losses; fraud and negligence and resulting under/non-delivery or invalidation of carbon credits; and methodology changes that would impact project baselines, which could impact expected versus actual credits generated from the projects.

"We are working with a range of insurance and re-insurance carriers that are seeking to innovate with us and develop solutions to address the aforementioned risks," she said. "In the future, once more robust data on performance of these projects is aggregated, there could be a product developed that would address most of these risks under one cover," Moudrak added.

Kita

Last month, UK-based carbon credit insurance specialist Kita announced an expansion of its offerings to Switzerland and Singapore, adding to its existing coverage for buyers and investors based in the UK, US and Canada, and part of an "ongoing global expansion strategy" that will see more nations added in the future.

Kita, which is a Lloyd's of London coverholder, offers insurance coverage to protect buyers of forward-purchased carbon credits against delivery risk – the risk of under-delivery.

Claimants can choose to be paid in cash or replacement carbon credits. The product, known as Carbon Purchase Protection Cover (CPPC), was launched in January 2023 with UK insurance company Chaucer – which also invested in Kita – providing lead underwriting capacity while follow capacity is provided by Munich Re Syndicate and RenaissanceRe.

James Kench, head of insurance at Kita, speaking at the 2024 North American Biochar Conference earlier this month, said the company has four preferred suppliers of credits, having run a tender last year. Longer term it is looking to build its own carbon credit reserve. "We would hold a reserve and that would allow us to hedge some of the market price risk," he said, adding that there is some way to go before this becomes a reality given the highly regulated nature of the insurance industry.

CPPC covers unavoidable losses, such as fires, weather impacts or disease, as well as avoidable losses, including fraud or negligence of the project developer, human error, abandonment, insolvency of the developer and/or carbon standard, as well as invalidation of the carbon credits. The company is also working on a product to cover reversal risks, Kench told the conference.

Oka

In January, carbon marketplace Cloverly announced offering a batch of carbon credits for sale on its platform that have "pre-wrapped" reversal and invalidation insurance for buyers provided by insurer Oka. Oka's 'Carbon Protect' insurance provides buyers with "financial compensation in the event of unforeseeable and unavoidable post-issuance risks, including invalidation or reversal".

The company lists post-issuance risks to credits as: catastrophic events, such as floods, fires and storms; human-induced events, such as negligent management practices, faulty carbon storage, project failure, land use changes, or illegal harvesting/logging; non-additionality, for instance, if a registry changes its assessment of issued credits; over-crediting, as a result of a project incorrectly quantifying its baseline, carbon stock, emissions, and/or leakage; exclusive claims, where more than one project may claim rights to the carbon; and fraudulent issuance.

The January announcement coincided with Oka's "Oka syndicate 1922" going live the same month, the company's founder and chief executive Chris Slater said. Oka was granted 'in principle' approval by Lloyd's to start underwriting from January 1 this year, the Oka syndicate 1922, a product that protects against buy-side carbon credit risks in the voluntary carbon market including financial, reputational, regulatory, and climate risks.

Parhelion

Parhelion is a carbon market veteran in terms of insurance, having been set up in 2006 and involved in coverage for the issues that could lead to non-delivery of carbon credits from the Kyoto Protocol's market mechanisms over a decade ago.

Parhelion also offers offset invalidation insurance under the California Air Resources Board scheme and is also involved with products that deal with risks that could lead to carbon credit non-delivery in the VCM, similar to what was available for the Kyoto markets coverage.

"This is nothing new per se; the question is how broad is the coverage," the company's founder and CEO Julian Richardson told Quantum last year, before he also took on the role as chief underwriting officer at Munich Re Syndicate. He said there is also a Parhelion offering looking to deal with political risks. There is normal political risk associated with investment into emerging market territories, but, he said, the political risk market that exists today is mostly focused around oil and gas and extractive industries.

"Those political risk underwriters understand oil and gas economics and politics but they're not, however, familiar with carbon markets functions and how does the VCM interact with things link Corsia and Article6 ITMO transactions," he said. "While the product is fundamentally the same there's a lack of carbon sector knowledge and expertise in the political risk market which we're looking to bring to offer political risk solutions."

Another area that Parhelion is working on is insurance-based alternatives to contributions to buffer pools and with the registries to increase the "financial security chain" associated with those buffer pool arrangements.

Carbon project methodologies often include a buffer of carbon credits that is used to make up the difference of any credits lost, such as for California's offset programme. It is a form of insurance against future forest losses such as pest, disease and wildfires, and is common in carbon schemes.

Marsh

Insurance broker and risk advisor Marsh has developed an insurance programme to address several risks, including delivery, permanence and invalidation. It also launched a programme in 2022 to allow US clients to pay service fees in voluntary market carbon credits and renewable energy certificates (RECs).

Under the programme, US customers can opt to pay for domestic insurance broking or risk advisory services by transferring agreed upon voluntary carbon offsets and RECs to Bank of America's carbon registry.

The bank has the power to accept or decline the credits and RECs, and is only interested in "high quality" credits and RECs, without elaborating on how 'high quality' will be defined. If the credits are accepted, Bank of America then takes ownership of the credits or RECs and "wires to Marsh funds equivalent to the proceeds of the transfer of the credit/certificate to pay the service fees owed by the client," the insurance broker said.

Ariel Re

In February 2023 , Bermuda-based reinsurance company Ariel Re launched a programme to cover the CO2 exposure of companies or individuals hit by a natural disaster, such as a hurricane or earthquake.

The Titania Re III catastrophe bond provides Ariel Re with $125 million of reinsurance cover for named storms and earthquakes in all US states, Puerto Rico, the Virgin Islands and Canada with an industry loss trigger over three years.

The company said it would buy carbon offsets from "a qualified provider" in the event of a natural event that requires a large number of homes, commercial properties and vehicles to be replaced.

"There is no rule that requires replacements to have lower carbon emissions," it said. "So Ariel Re is using Titania Re III to mitigate this missed opportunity and buy carbon offsets equivalent to the benefit that would have come from rebuilding or replacing buildings and vehicles with those which have a less damaging carbon impact."

Others

In January, Switzerland-based carbon insurance start-up CarbonPool said it had raised $12 million in seed funding as part of its goal to offer coverage that pays out in carbon credits.

The initial focus is on carbon removals, but the company envisages moving into avoidance markets in the future. The money will be used to develop products, support carbon risk underwriting and capital models, and obtain a regulatory license with the Swiss Financial Market Advisory Authority, which it aims to complete later this year.

CarbonPool has been set up by three former executives of insurance firm Allianz, and seeks to compensate its clients with "high-quality" carbon credits for unexpected carbon credit shortfalls and reversal events caused by natural catastrophes, weather effects and breakdowns in machinery.

"The premiums collected from each client are invested, alongside CarbonPool's own capital, into high quality carbon removal projects, to enable claims payments in-kind," CarbonPool said.

In February last year, Ping An Property & Casualty Insurance Company of China (Ping An P&C) launched its first ocean carbon sink insurance policy in Northeast China. Ping An P&C said that this is the company's first venture into the field, but follows the launch of pilot remote sensing index insurance in 2021.

Ping An P&C will provide compensation when specific changes in the marine environment damage local species and lead to CO2 emissions. The loss compensation can be used for post-disaster marine species rescue, as well as ecological protection and restoration.

"The ocean carbon sink index insurance provides carbon sink risk protection with RMB400,000 [$56,000] for (8,866.67 square metres) of kelp, shellfish and algae, enriching Ping An P&C's carbon sink insurance coverage on terrestrial and marine ecosystems, including forests, mangroves and grasslands," the company said.