December 2020

Sustainability: Turbocharging ESG in Asia

ESG_dataAlthough ESG investing has become more mainstream in the West, Covid-19 has turbocharged the trend as sustainable funds have proven their performance mettle this year, writes Lynn Strongin Dodds. The same is true in Asia, although given the diverse nature of the region, some countries are further ahead than others on the journey. On the big-picture front, data from Morningstar showed that the pandemic – and the illness and death in its wake – has pricked the collective Asian fund management conscience. In addition, large asset managers in the region have also been attracted by their resilience. From a global perspective, socially responsible investment (SRI) global funds dropped less – 10.8% compared to the 13.7% decline in non-SRI counterparts and 13.5% from the MSCI World index in the first three months. In the second quarter, 18 of 26 sustainable index funds covering US, other developed and emerging market stocks outperformed a comparable conventional index fund, net of fees. For the year to date, every one of those 26 outshone its respective conventional index-fund peer, net of fees. This helps explain record inflows in the third quarter of US$8.8 billion (€7.5 billion) into active and passive funds based in the Asia-Pacific region excluding China, where data was not yet available. Japan was the biggest winner, with the Morgan Stanley-run Global ESG High Quality Growth Equity fund drawing in $5.5 billion after launching in July. Taiwan came in second with around $800 million, followed by $815 million from Australian Ethical Investment and Vanguard Group among the biggest product providers. Asia pales in comparison
Despite the recent surge, though, Asia still accounts for a pinprick – 11% of global inflows and 3% of sustainable fund assets worldwide. Europe dominates with 4,000 funds while Asia and the US are much further down the ESG ladder with around 400 each. There are several reasons for this slower pace of adoption. The most notable is the cultural and historical bias towards short-term results – the opposite of the long horizons needed for a successful sustainable strategy. A lack of resources, knowledge and skillsets in the region has also meant fund managers typically do not have the toolkit to interpret the multitude of ESG metrics, standards and industry acronyms. But it is not that easy in the West either, and it has been a source of constant debate and discussion.  The other problem is the absence of a uniform regulatory agenda akin to the European Union’s collective sustainable investment push. Instead it is a patchwork response. “While it is generally agreed that Asia is behind Europe, we have seen a huge acceleration in interest in ESG investing from asset managers and owners over the past three years in Asia, particularly in China, Hong Kong, Singapore and India, albeit to a different degree,” says David Smith, senior investment director for Asian equities at Aberdeen Standard Investments. “This is reflected in a strong focus by regulators and central banks on green finance and environmental initiatives.” India is further behind the curve with ESG reporting than the other countries. Two years ago, the Bombay Stock Exchange published a guidance document on ESG disclosures, informed by global sustainability reporting frameworks. However, it is still only mandatory for the company’s largest 500 companies and the hope is that pressure from investors will prompt a wider range of companies to comply. By contrast, in this year alone, the Monetary Authority of Singapore (MAS) supported the first institute dedicated to green finance research and talent development by the Imperial College Business School, London, and Lee Kong Chian School of Business at Singapore Management University. Moreover, it recently released a consultation paper on new guidelines to manage environmental risks for financial institutions, while last November, it invested $2 billion to develop green markets. This year also saw the Hong Kong Exchange update its ESG reporting requirements, devised five years ago for listed companies. The aim is to make the board more accountable in that it has to disclose its oversight and monitoring process, as well as the management approach and strategy of ESG matters. Just as important is that companies are now required to disclose how climate change will impact their businesses. China’s developments
Karine Hirn, a partner at East Capital, believes the most exciting developments are occurring in the world’s largest energy user and greenhouse gas emitter, China, “where the war on pollution has been very high on the agenda for several years. The recent pledge to become carbon-neutral by 2060, announced by Chinese president Xi Jinping at the UN General Assembly, offered the single largest piece of climate news since the Paris Agreement was signed.” The Chinese government started the journey three years ago at the 19th Party Congress, which looked at tackling climate change, and in 2019, the government unveiled a “green finance” revolution, which was published in the Guidelines for Establishing a Green Financial System. In addition, more than 20 China-based asset management companies have signed up to the United Nations Principles for Responsible Investment (UN PRI), including behemoth firms such as China Southern Asset Management and China Life Asset Management. Hirn also thinks foreign investors will be a driving force. “Global investors today are structurally underweight China and foreign investors only represent 3% of the domestic $10 trillion market cap today, but further inclusion of A-shares in the MSCI index, alongside market institutionalisation, represent two major long-term structural tailwinds for A-shares where foreign investor participation is expected to increase to 10%,” she adds.  “It is still really early days in China but the idea that integrating ESG considerations in the decision-making process can improve returns is being increasingly understood by local asset managers.”  ESG landscaping
Martijn Oosterwoud, head of SI specialists for the sustainable and impact strategy at UBS Asset Management, agrees, adding that portfolios that have corporates with robust ESG policies proved not only that they were operationally resilient this year, but that there was a strong link to long-term performance. “It showed that ESG was not a significant barrier as some had thought,” he says. To date, the greatest demand for ESG funds is from high-net-worth individuals, but market participants expect government-backed sovereign wealth and pension funds will up their ESG investment ante. Selecting the right investments, though, is not always that straightforward. As Oosterwoud puts it, this is particularly challenging in Asia due to the limited availability of data. “There is a widespread consensus that while we can identify companies with strong ESG credentials, you can’t apply similar standards, for example, to governance as in the US and Europe, where there are structures that can identify the weakness,” he adds. Not surprisingly, the environment is easier to measure and understand in terms of what companies are doing to decarbonise their footprint, while assessing the social aspect is harder because it is dealing with human capital management, health and safety and supply chain issues, according to William Ng, ESG engagement analyst at HSBC Global Asset Management. “However, I see social issues have become more prominent because of Covid-19 this year,” he notes.  Ng believes that “corporate box-ticking is still a challenge for investors to navigate corporates’ ESG data but that the quality and quantity of disclosures have been improving, with the financial industry playing an important role.” Aisa Ogoshi, a fund manager at JP Morgan Asset Management, is also encouraged to see firms more willing to engage with fund managers on different issues where red flags have been raised. “Companies can’t ignore ESG and we have found them to be more open about their issues, problems and how they can mitigate the risks,” she says. The pace of change, of course, will vary depending on the country and their own structures, requirements, and regulatory frameworks. They are unlikely, though, to follow completely in the footsteps of their Western counterparts and will create their own ESG investment roadmap.  “In general, how countries tackle ESG issues will look different in emerging than developed markets,” says Ogoshi “You can’t expect India to implement the same policies as those in the Netherlands and Japan, given that they are much more mature markets.” The article first appeared in Funds Europe’s Winter 2020 ESG Report. © 2020 funds global asia

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