McKinsey & Company | Rik Kirkland | Apr 21, 2020

The physical impact of climate change will lead to a major capital reallocation, says the head of BlackRock, the world’s largest asset manager.

During a 40-year career, BlackRock CEO Larry Fink has learned that financiers seldom ignore risks to their businesses: “Once they recognize a problem,” says Fink, “they bring that problem forward.” Fink himself has made a practice of bringing problems to the fore in his yearly letters to CEOs and clients. When he focused on climate risk in his 2020 letter to CEOs and a related letter to clients from BlackRock’s global executive committee, citing work by McKinsey and others, he sought to advance a discussion that he’d seen accelerate during the previous year—and to spur executives and policy makers to act. In this commentary, adapted from an interview with McKinsey’s Rik Kirkland in February 2020, Fink expands on certain themes from his 2020 letters, including the threats that climate change poses to the poor and vulnerable, the diverging interests of advanced and developing countries, the importance of fair policy solutions, and the value of better nonfinancial reporting.

The Quarterly: Why did you choose to concentrate on climate risk in your CEO and client letters this year?

Larry Fink: Throughout the year, and more frequently as the year progressed, the question of climate change was raised by all our clients throughout the world, whether in Saudi Arabia or in Houston or in Sacramento or in Europe. And it was raised not just by our clients but by regulators and government officials. At the same time, we were witnessing more evidence of the physical impact from climate change. All this really hit me when I was sitting down to write my CEO letter, which I generally try to do right after the August break.

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I was just writing down all the themes that I wanted to talk about. Climate risk was actually not a major component of the first draft. But then, in September, when I had meetings with the UN [United Nations] in New York City and then with the IMF [International Monetary Fund] in Washington, the urgency of the conversation became very clear to me.

The Quarterly: What were you hearing from your clients? What keeps them up at night?

Larry Fink: As finance now starts looking at potential climate risks, it raises so many different capital-allocation questions. One great question was asked by a client—I’d say among the smartest clients we have worldwide. This client said, “We never think about climate change as a risk. And yet we’ve been great investors over the long run because our time frame is ten to 15 years. Now, through the lens of sustainability and climate impact, how do I think about our strategy for today? Can we expect the same type of positive outcomes and liquidity? Should we factor in the physical impact on some of our investments—whether physical investments, like real estate, or municipal investments in cities and states?”

They raised many large questions about whether they should think about investing differently and whether they should add the lens of climate risk to their long-term investment strategy. And the answer is yes.

The Quarterly: A key point you made in your letters is that we may see a “fundamental reshaping of finance,” with a significant reallocation of capital “in the near future.” How will that happen? Can you give an example?

Larry Fink: Well, if 5 percent or 10 percent or 20 percent of our clients are starting to ask these questions and trying to design strategies to effectuate the climate theme over a long horizon, that in itself is a capital reallocation. We’re hearing this in our conversations with insurance companies, which are looking at climate change and how they should insure. That represents a major societal issue that’s unfortunately very regressive. We don’t talk about how regressive this could become.

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In the United States, insurance rates are generally set by state insurance commissioners. It’s very hard for an insurance company to raise rates extensively even if it thought a jurisdiction may have real, physical climate risk.

So, suppose you buy a house, and you think you’re going to live in that house for 20 years. Your insurance has to be renewed every year. But the house is in an area where the insurance company does not have the ability to raise rates unless reinsurance rates are raised. Ultimately, it’ll be able to raise rates. In the interim, it may say, “I can’t provide you with coverage anymore.” Then you have this long-term asset that you want to protect, but the insurance companies may not insure you. That is another form of capital allocation and reallocation.

And we’re starting to see more evidence of climate change and its impact on capital allocation. I do believe that if you’re a long-term investor, you’d better frame all your investments through that lens.

Larry Fink, BlackRock CEO on Carbon Tax

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