Physical climate risk is becoming a key consideration for real estate investors, moving beyond a sustainability or reporting lens to inform due diligence, financing, and investment decisions. Martijn Vlasveld, Managing Director, Portfolio Manager and Head of Sustainability Europe at Edmond de Rothschild REIM, notes that understanding physical climate risk is essential to understanding the investment itself.
The second paper in INREV’s physical climate risk series focuses on data flows and transparency, mapping how information moves between stakeholders and identifying what is needed to support more consistent physical climate risk assessments.
Understanding Physical Climate Risk
One of the challenges for investment managers is that there is still no single, uniform view of climate risk. The same property can receive different scores from different providers, making it essential to understand what sits behind a headline risk score. He compares this to weather forecasting, where different models can give slightly different outcomes.
Climate risk models are developing rapidly, with some providers more advanced in modeling particular hazards than others. This creates differences in assessment outcomes, reinforcing the importance of transparency around inputs, methodologies, and outputs. A high-risk score is not the end of the story, as it is essential to distinguish between gross and net physical climate risk.
Gross risk reflects the location risk before adaptation measures are considered, while net risk reflects what remains after measures that reduce that risk have been considered. He cites the Netherlands as an example, where the gross location risk might be high due to the country’s low elevation, but the net location risk is acceptable when sea-flood protection measures are taken into account.
Assessing Climate Risk
The same principle applies at the asset level, where a building may have high gross exposure to storms but considerably lower vulnerability if it has been constructed with storm protection in mind. For investment managers, this means moving beyond location-level screening and understanding the characteristics of the building itself, such as sunshades or air conditioning, which can affect an assessment of vulnerability to heat stress.
He emphasizes the importance of having detailed building information available and, ideally, complementing the data with an on-site assessment by an asset manager or climate expert. This information can help investors make more informed decisions and identify areas where action can be taken to reduce risk.
Climate risk is increasingly being integrated into financial decisions, with climate risk scans becoming part of due diligence processes. Investors are also becoming more cautious about areas with high risks of storms, floods, and wildfires, which can impact investor demand and ultimately pricing.
The effects of climate change can extend beyond the acquisition decision, with implications for insurance premiums and availability. Banks are also taking climate risks into account more, which can influence asset liquidity and pricing. He expects the effects of climate change to be seen first in insurance premiums and potentially in the availability of insurance in some locations.
According to Martijn Vlasveld, the first step in addressing the risk is to identify existing hazards, the second step is to map possible improvement actions, and then the third step is to execute the improvements. Prioritizing responses to relatively frequent acute hazards, such as storms, is particularly important, as capital expenditure can be deployed effectively in these areas.
Larger, less frequent but potentially higher-impact threats, such as flooding, require a different approach, often involving collaboration with government bodies and other property owners. Greater consistency in reporting can support these decisions, with tools like the INREV ESG SDDS providing investors and banks with greater visibility into climate risk assessments.
