Is the municipal bond market mispricing climate risk? – Bond Buyer




Natural disasters wreak havoc indiscriminately on communities both large and small. The economic toll can be heavy because the value of property at risk has dramatically increased as people move to ever-expanding (and vulnerable) coastal communities and deeply forested areas.

According to the National Oceanic and Atmospheric Administration (NOAA), in 2018 and 2019 there were 28 billion-dollar weather related disasters. Associated losses were estimated at $136 billion — $91 billion for 2018, $45 billion for 2019. The recent record for losses was set in 2017, at $306.2 billion, which broke the previous record from 2005 of $214.8 billion.

As devastating as natural disasters can be, their impact to municipal bond prices has been muted. Frankly, prices of financial assets during the past years, both stocks and bonds, were largely unaffected by losses to real assets caused by natural disasters.

Is there a disconnect pricing the risks of catastrophes in the municipal market, which we consider a key component of environmental, social and governance (ESG) assessments?

Common sense calls for investing in bonds from areas not impacted by hurricanes, floods and fires, or demanding to be compensated when taking on natural disaster related risks. However, municipal bond pricing generally offers little to no concession when investing in high ESG risk areas, all else being equal. After all, natural disasters have led to some credit rating downgrades, yet they have not proven pervasive — and no municipal bond defaults have resulted directly from a catastrophe.

In the long run, municipal debt issuers mostly regain their
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