Moody's says heat, water scarcity driving stranded-asset risks

(Bloomberg) --Extreme heat and unreliable water supplies are threatening asset valuations across a growing number of sectors as everything from labor productivity to energy costs gets impacted, according to an analysis by Moody's.

"Heat and water are no longer separate perils moving on separate timelines," Mohsen Rahnama, managing director and head of catastrophe modeling and insurance solutions at Moody's, said in a fresh report. "They are converging, and doing so quickly." 

For investors, "both perils translate into operational risk, earnings volatility and stranded-asset exposure," he said.

This year is now on track to be the hottest recorded in human history. In Europe, the fastest-warming continent, heat has exposed huge gaps in the region's preparedness as its infrastructure buckles. Economists are already warning that disruptions to harvests, commodity supplies and the ability of humans to function will hit both inflation and GDP, as 2026 becomes the year in which the lived experience of climate change upended the status quo.

Rahnama said heat and water risk are starting to "weigh on values" in the real estate sector. Such impacts, left unpriced, "can quietly erode cash flows and portfolio returns" for firms in sectors spanning agriculture, the manufacture of apparel and of semiconductors, he said.

The upshot is that investors now need to adapt to a "new risk landscape" created by extreme weather conditions, as the impact of heat and water scarcity morph into permanent risk features, Rahnama said. "Reinsurers, banks, and investors are watching these same trends closely, given their reach across regions and their role in how capital moves in response to physical risk."

In the US, Moody's said a sample of about 159,000 water-intensive facilities revealed that close to 49,000 may face high or very high water stress in the decades ahead. Most are concentrated in Texas and California, while over 60% of the facilities reviewed are used for heavy manufacturing and processing. Roughly a quarter are used for producing food and drinks, while some 14% are for mining and quarrying, according to the report.

Such risks can be hard for insurers to capture, due to the slow-moving nature of the damage done. 

"Traditional indemnity cover sits awkwardly with chronic risk," Rahnama said. But "losses from heat and water stress build slowly, are hard to model precisely, and tend to strike many policyholders in a region at once, overwhelming the usual diversification."