Introduction: on why the question of risk and financiers like insurers getting aboard the Hydrogen train is arising
Currently, hydrogen is quickly getting higher on the agenda of politicians, energy ministers, and executives across energy companies, banks and insurance risk carriers. All are facing similar questions, around how to best unlock the potential of investments into hydrogen and its infrastructure. That is being triggered since we start to consider hydrogen as an essential tool in the climate transition toolbox for limiting global warming, meeting net zero climate commitments and supporting the Paris climate agreement.
In this context, clean hydrogen is an ideal renewable energy carrier and can be used to power specific activities of emissions-intensive industry sectors that would otherwise be difficult to decarbonize – use cases are being discussed for the manufacturing, transportation, power generation and ammonia-based fertiliser industries. IEA (2021) estimates the financing need for hydrogen to be up to 10 trillion EUR by 2050 of accumulated investment globally. Over the next ten years, insurers may wish to start supporting the financing and insurance of this part of the energy transition, hence the beginning of setting mental lens to evaluate the hydrogen opportunities.
On first steps into insuring hydrogen value chains, some figures showing it is top-of-mind, and yet to accelerate.
The insurance world starts moving into hydrogen, alongside commercial banks. According to insurance broker Marsh, current support for a first wave of hydrogen projects amounts up to 300 mln USD [#1 | Reuters].
As we approach the year end of 2022, globally this counts as a small start for a nascent sector in a rapidly evolving ESG context. Fair enough for now.
To look into the future, let us consider a case study for Europe, where today EU commission president von der Leyen sent a letter to EU Council with strong policy commitment to Hydrogen and measures for European industry to lead (again) the Hydrogen market rise. Here, the global energy crisis, as called out by IEA, is acting as an accelerator in the energy transition. To get a more detailed flavour, let us zoom into Germany in order to dive-deeper into a material insurance market as evidence point for state of play. Here we note that the German Insurance Association (GDV) recently characterized the domestic insurance sector’s contribution to managing climate change [#2, GDV]. This publication allows us to see two dynamics unfolding at different speeds – one that’s fast-pace, another one that’s gradual.
Firstly, the fast-paced dynamic: The energy crisis is already and commonly recognized as the most material transformative theme, deemed to influence the strategy of insurers – 71% of the German Property & Casualty insurers that GDV interviewed reportedly think so. That’s equivalent to 50 German insurance companies, and ranks similar to the transformative impact of the mobility transition (68% or 48 companies). That’s notably ahead of climate change transition solutions as a theme (56% or 43 companies).
We believe that this fast-paced energy dynamic is there to stay for Europe.
Currently, insurers start to deliver on their environmental, climate and net zero commitments. While the current macro-economic environment is challenging, this dynamic is supportive for a clean hydrogen business case. Eventually, such case might land at an insurer, either within an insurance, reinsurance or investment team, typically for specific parts of the hydrogen project lifecycle (e.g. from project development and financing, to construction, operation, etc). The support of underwriters and investors are both equally relevant to support such business case. This will evolve as part of an insurers decarbonization pathway and importantly, their investment, underwriting and risk management frameworks.
Secondly, the gradual dynamic. For this case study, we see this dynamic by looking at the status quo of current investments in the German insurance sector. For a clear starting point, we consider the year end of 2021, before the war in Ukraine began. After realizing that our fast-paced dynamic suggests that the energy transition is top-of-mind, we look into current asset allocations towards the energy transition at German sector level. Here, GDV, in the same publication quoted above, discloses that this accounted to barely 0.7% of assets under management with insurers in Germany at year end of 2021. Now, that leaves much room for engagement and growth. And 2022 is indicative of this momentum starting to unfold, as we note from informal market discussions. Yet, it is a startling contrast - the 2 dynamics.
Our deep-dive here for Germany showed that the work on the energy transition for insurers is just starting.
On analogies for the insurer’s playbook: Will hydrogen be a copy-and-paste of oil-and-gas? Or is more comparable to large scale wind investments? Neither. New risk management blueprints are needed for underwriters and investors. Notably it's molecules, hence some comparison to LNG like value chain is merited.
As we have seen from the Marsh example quoted above, since 2022, some large industrial insurance players started offering frameworks for assessing the risks that are associated with hydrogen value chains. Others are still developing those or refining them. While there are some parallels with oil and liquified natural gas value chains, hydrogen value chains are potentially even more complex than these, and are exposed to new risks that need to be fully considered.
The overwhelming majority of senior management consulted through an online Linked-in poll, believed it is value chain complexity that is most risky in hydrogen value chain build-up. This will be the main hurdle for insurers to understand before competitive and widespread insurance support becomes available via investments and underwriting capacity – and finding a solution is thus a requirement for unlocking growth in the nascent global hydrogen market.
Value chain complexity comes from a multitude of factors, including the vast landscape of the hydrogen economy, the continuous evolution of technology (such as electrolysers and transport), the number of players, and new geographies. To start with a geographic example, as the global hydrogen industry develops, insurers may need to consider the risks of making clean hydrogen in Chile, Saudi Arabia, Namibia, Marocco, United States or Australia. And then shipping it via energy carrier routes as piped compressed hydrogen, liquid hydrogen or ammonia, or even as synthetic methane or LOHC, as far as UK, Europe or Asia, finally delivering it to the doorstep of large industries, fueling hubs, bunkering hubs in ports, and airports.
Therefore, as we are about to enter 2023, other key questions arising for insurers will imply the need to understand differences to global fossil value chains. Here we suggest a few more straightforward background questions as early-stage support for evaluating a potential hydrogen business case, such as:
- What is clean hydrogen and why is it relevant now?
- What is the simple overview of the value chain?
- Who are the key players, and what opportunities and geographies are they investing in?
- What governmental policies support the rise in clean hydrogen?
- What is different about the global value chain of clean hydrogen versus those of fossil fuels (such as liquefied natural gas)?
- What are the time horizons of investments?
- How could the hydrogen investment landscape evolve with time, across new geographies, new technologies and new players?
- Would new players have track record to price the underwriting and investment offers?
Once insurers feel more comfortable with understanding how clean hydrogen differs from traditional oil and gas, they can better draw in-house conclusions about the risks that they are already more familiar with as part of actuarial risk pricing considerations in the fossil fuel industry, their strategic risks, financial risks, market risks, operational risks, political, country and regional risks, as well as reputational and compliance risks.
So what is next?
The European continent appears in the spotlight of the global energy transition. A supportive investment environment emerges clearly and will trigger the need for supportive insurance solutions:
- The EU pursues its Repower EU program. This explicitly includes hydrogen as additionally diversifying renewable energy source, with a generous requirement of 10 Mton imports, and 10 Mton domestic hydrogen production a year by 2030. The EU Commission proposes to increase the EU’s 2030 target for renewables from current 40% to 45% [Ref3 | EU].
- The UK doubled its target for low carbon hydrogen production to 10GW by 2030, launching initiatives including £240mn net zero hydrogen fund that faces critics pointing out the lacking scale in comparison with EU and US incentives;to be fair to UK much more initiatives supporting Hydrogen and carbon capture, and innovative tech are on the way [#4 | FT].
- Meanwhile, on December 9th, Portuguese PM Antonia Costa, European Commission chief Ursula von der Leyen, Spanish PM Pedro Sanchez and French President Emmanuel Macron announced the hydrogen pipeline between Spain and France to be completed by 2030 at a cost of €2.5 billion, declared as a "project of common interest", which would enable it to claim up to 50% of its cost from EU fund [#5 | Euronews].
- The US, which is not our primary focus for this mini-study per se has its own scheme, the IRA, promoting major hydrogen investment, and which is seen currently as tilting lots of hydrogen investor attention to USA.
- The list of the global policy funding support to Hydrogen is very long - Hydrogen was at the center of COP27, albeit somewhat unnoticed; so we welcome additions to the list above. Global studies quote the annual hydrogen investment rate to range between 80 and 280 bn EUR to contribute reaching net zero emissions [#6 | HLEG]. We estimate current annual spending for year end 2022 to reach at best 25% of this lower end (we are happy to be corrected on this number - we hope to be too conservative and wrong as policies are driving this investment up as we see both in US and Europe:)).
As the hydrogen economy is appearing on the global energy map, insurance firms are advised to start educating their management and boards about the hydrogen economy and its evolution ahead.
As authors, we personally believe that insurers are well advised to prepare by building an understanding of the inherent uncertainties. A next step could be to develop capabilities that effectively assess risks for new global value chains and new partnerships as they are formed. Additionally to supporting timely risk insights, foresights, pricing, investment and underwriting capabilities, it will become a must for ESG teams to take a stance in evaluating renewable energy cases holistically, beyond the beneficial contributions to decarbonization pathways.
This article is also published on the author's blog. illuminem Voices is a democratic space presenting the thoughts and opinions of leading Sustainability & Energy writers, their opinions do not necessarily represent those of illuminem.
Cover photo source: kraaijvanger, Shell plant impression.
Erik Rakhou is an Associate Director for Hydrogen at Boston Consulting Group (BCG), with 20+ years of experience in energy systems and policy development globally. He co-authored the book “Touching Hydrogen Future”. He was formerly appointed as an alternate member of the ACER, EU energy regulator, and Board of Appeal from 2016-2021.
Sebastian Rath is an Associate Director for Climate & Sustainability in Insurance at Boston Consulting Group (BCG). He formerly consulted with KPMG's actuarial advisory team and later as principal with McKinsey’s Risk Dynamics. Holds a PhD in catastrophe modelling from the Hamburg University of Technology.