A culture focused on environment, social and governance (ESG) factors has been slow to emerge among Asian companies — perhaps with the exception of Japan. While investors in Europe or the US increasingly see the need to consider corporate behaviour as part of the requirements of fiduciary duty, in Asia this is often seen as something of a costly luxury.
But governments in the region are increasingly moving to impose ESG-based strictures on companies through regulations such as stewardship codes. As a result, Asia is beginning to catch up.
One has only to look at China’s move last year to adopt mandatory ESG disclosures as having a significant regional impact in setting the tone for improving commitment to corporate responsibility. Or consider the December 2015 announcement by Hong Kong's stock exchange that it would strengthen its ESG guide for listing rules — a move met with strong support from a variety of stakeholders — to see how much the momentum is growing.
Other drivers are encouraging more investors to practise ESG integration too, including rising levels of capital flowing into funds that integrate ESG factors and growing awareness of academic research supporting the benefits. And as investors embrace evidence that demonstrates the outperformance of ESG-compliant equities or become willing to avoid stocks from corporates deemed to have poor governance and human resources practices, so Asian boards are initiating ESG-compliant behaviour.
To be sure, more work is needed. A recent survey by State Street Corporation Asia Pacific found that 87% of regional institutional investors and 92% globally want companies to explicitly identify ESG factors that materially affect performance. Some 58% of investors in Asia Pacific and 60% globally said a lack of industry standards for ESG performance was a major barrier to full integration.
But despite these issues, there is recognition across the region that financial instruments — equities and fixed income in particular — will be key to financing much-needed, long-term green infrastructure projects across Asia and in other parts of the world.
For equities, share prices are often driven by news flow and sentiment about growth prospects (such as in earnings or profits), rather than just fundamentals. As such, there is more likely to be direct and immediate sensitivity to ESG factors. Fund managers can also use ESG factors in risk management and to better identify new investment opportunities, which should help cushion their portfolios against market volatility.
One of the issues preventing a more widespread take-up of ESG is that it can be challenging for fund managers to find an approach that works for their particular investment style. It’s crucial to have a robust investment risk management process when considering ESG factors in any asset class. But even then, fully integrating ESG factors into a new or existing investment process takes time and often requires trial and error.
There is one key first step that is applicable to investors in Asia and beyond: get senior management to buy into the benefits of integrating ESG factors into investment processes. Only once that support is secured will asset owners and fund managers be certain they can commit the time and resources to create an ESG overlay appropriate to their investment objectives and capabilities.
Fiona Reynolds is managing director for the United Nations Principles for Responsible Investment. For more information and advice on implementing ESG principles into investing, please visit: www.unpri.org