Why is Asia lukewarm to sustainable investing?

For many people in Hong Kong, an international financial centre known for its freewheeling entrepreneurship, doing good and doing well is still a binary choice.

But that would be considered old-fashioned thinking in today’s investment world where a pure focus on profit is no longer sufficient, asset managers and analysts said, as firms would then miss out on long term opportunities and be exposed to operational and reputational risks and potential losses.

“There is no reason why you can’t generate [greater return] when you invest responsibly,” said Pictet Asset Management senior product specialist Marc-Olivier Buffle, who sits on the Swiss firm’s sustainability board.

“The idea that the more responsible you are the less [return] you generate is not what we believe at all.”

Investors in Asia, a region made up of numerous emerging markets that have made economic growth a priority, typically take a shorter-term view on investments. Coupled with a lack of government initiatives to drive sustainable investing, Asian investors and their fund managers have lagged far behind their western counterparts in embracing “ESG investing” – the inclusion of companies’ environmental, social and governance performance as criteria in fund allocation decisions.

According to a report by Global Sustainable Investment Alliance, of the “professionally managed” assets it tracked globally, some 26 per cent or US$22.9 trillion worth of them were managed under “responsible” investment strategies last year, up 25 per cent from US$18.3 billion in 2014.

The alliance is a network of organisations promoting responsible investment, whose members are in Europe, the United States, Australia and New Zealand.

In Asia-excluding Japan, only US$52.1 billion of funds were managed with “responsible” investment strategies, a fraction of the US$12 trillion in Europe, US$8.7 trillion in the US and US$473.6 billion in Japan, according to the report.

Not only was the region lagging in the absolute investment amount, the 16 per cent pace at which such investment grew in the two years to 2016 was also moderate, compared to 33 per cent in the US and 12 per cent in Europe, considering that it was growing from a low base.

In Japan, the amount of funds under responsible investment strategies rocketed from US$7 billion in 2014 to US$473 billion last year, thanks to greater reporting of these investments and the state pension funds’ lead in sustainable investing activity there.

A recent survey commissioned by HSBC of 497 investment heads at asset management houses globally painted a similar picture.

It found that 27 per cent of Asian investors integrated ESG factors systematically into their investment strategies.

While this was ahead of the 9.2 per cent among their counterparts in the Middle East, it trails the 35.2 per cent in the Americas and 74.2 per cent in Europe.

However, some green shoots have sprouted.

“Asia may seem a bit slow coming, but globally ESG investing did not have a long history either ... we are seeing a rising amount of assets under management that takes ESG factors into account systematically,” said Amy Cho Yee-kee, regional head of Asia-Pacific excluding Japan at Pictet Asset Management.

“The trend is up and coming, particularly following the 2008 global financial crisis, as investors have seen long periods of volatile and diminished returns, and more of them are interested in finding new ways for more sustainable long-term investment.”

Cho noted that Taiwan’s Bureau of Labour Funds, which administers the island’s largest pension funds, hired four fund management firms in June this year to manage its newly set up US$2.4 billion “Global ESG Quality Mix Equity Indexation Mandate”.

The bureau said it hoped to lead a trend of ESG investing in Taiwan.

The move was the bureau’s first foreign mandate for responsible investing, under which firms in the tobacco, alcohol, arms, gaming and pornography industries are excluded from its portfolio, in addition to those with dubious records in environment, human rights, labour rights, supply chain management and governance.

Before this, the bureau said it had regarded ESG factors as “crucial criteria” in its investment decisions in domestic firms.

Government and public sector leadership are crucial, as Japan’s sharp increase in responsible investing in the past two years has shown.

The Government Pension Investment Fund (GPIF), the world’s largest pension fund manager which administers Japan’s national pension and government employees’ pension funds, in late 2015 signed up to the Principles for Responsible Investment (PRI). It is now the world’s leading proponent of responsible investment, spearheaded by the United Nations and launched in 2006.

The GPIF plans to raise its investment allocation in stocks tracked by indices of Japan-listed firms with ESG ratings to 10 per cent from 3 per cent, and is looking to start investing in ESG-rated stocks abroad. No time frame was announced.

The GPIF has committed to incorporating ESG issues into its investment analysis and decision-making processes and demanding ESG disclosures from its investees, even though PRI signatories’ commitments are “voluntary and aspirational”.

The PRI has some 1,713 signatories that are either asset owners, managers or support services providers.

Of the total, about 54.2 per cent are based in Europe, 24.2 per cent are from North America, 7.9 per cent from Australia and New Zealand and 5.9 per cent from Asia.

In Hong Kong, large public-sector fund administrators have yet to grant any ESG investment mandates to fund managers.

A spokesman at the Hong Kong Monetary Authority, which oversees the management of the city’s HK$3.9 trillion (US$499 billion) Exchange Fund whose investments include stocks and bonds, said “consideration of ESG factors is a feature of its various internal investment analysis processes”.

“We will continue to closely monitor the development of ESG standards and consider how best to further integrate these standards into our investment process,” he added.

Doris Ho, executive director of the Hospital Authority Provident Fund Scheme which manages more than HK$58 billion of assets for its members, said over 90 per cent of its assets were managed by fund managers that are signatories of the PRI.

While the signatories are required to publicly report on their responsible investment activities within 24 months of joining, they are not bound by measurable targets.

Ho said although ESG investing would help improve fund performance over the long term, one difficulty for implementing it was the lack of a standardised and objective way to measure the results.

This was echoed by Pictet’s Buffle, who said “company Z” – a holding under Pictet’s environmental strategy that he cannot name due to company policy – has in recent years raised the number of women directors in its 18-member board from none to three, and the number of nationalities to four from one.

Asked if the more diverse board has resulted in better financial performance, he conceded that while the company has performed well in the last few years, it is not possible to tell how much was due to greater board diversity.

“Of course, it is obvious that having directors from different nations would help its business as it manages projects in over 80 countries,” he said, adding that six year ago, all 18 of its directors were white males older than 60 years of age and of the same nationality.

Other challenges cited by investment professionals in Asia include a lack of credible investment opportunities, research and corporate ESG disclosures, and a propensity to focus on shorter term returns.

“In Europe and the US, where ESG investing is more advanced, people have been asking their fund managers to incorporate ESG factors in the investment process for their retirement savings,” Cho said.

“In Asia, where more people are seeking short term investment opportunities on funds, stocks or other instruments, we do not see retail investors asking for ESG products yet, it is mostly private banks and second or third generation wealth owners who do.”

Limited availability of data is also a key constraint, according to Goldman Sachs analysts. Still, they said in a recent report that emerging markets were “in an inflection point where better ESG data can increasingly be used to help investors manage risk”.

A recent survey by Hong Kong-based Alaya Consulting, which examined the sustainability reporting practices of the city’s 200 largest listed companies by market capitalisation, showed that only 17 per cent have disclosed all 12 environmental key performance indicators recommended by the city’s stock exchange in the latest financial year. Just 22 per cent have adopted the international reporting framework developed by the Global Reporting Initiative that seeks to standardise reporting formats for easier comparison.

The ESG performance indicators of listed firms have a bearing on their returns for shareholders, according to the Goldman Sachs report. Out of the 600 or so constituent firms of the MSCI Asia excluding Japan Index scrutinised, those that scored in the lowest 25 percentile on environment and social factors, based on historical performance, are projected on average to underperform those with higher rankings by one percentage point annually in shareholders’ return in the next three years.

As Asian investors gradually warm up to sustainable investment, one growth area in the past year has been “green” bonds, which finance projects with environmental benefits, said Richard Welford, chairman of Hong Kong-based CSR Asia, which helps companies create and monitor their sustainability strategies.

“Those bonds are mostly coming from property developers and infrastructure companies and linked to things like certification of green buildings. Apart from that, I do not see particularly strong interest from anywhere else,” he said.

Asia – excluding Japan, China, Australia and New Zealand – has issued US$6.1 billion worth of green bonds to date this year, far exceeding last year’s total of US$4.6 billion, according to a tally by financial markets data provider Dealogic on Tuesday.

Issuance in China, the world’s biggest green bond issuer last year, has fallen after a spurt last year on the back of several jumbo deals.