Is ESG Integration a Fad, or Does It Have Alpha Potential?
In Asia, the subject of environmental, social and governance (ESG) investing has been a very trendy topic. For many years, many investors have tried to incorporate elements of values and social responsibility into their investment strategies. However, the return on these strategies has in the past left a lot to be desired. It is natural to wonder why a rational investor would be willing to compromise the chances of superior performance in return for moral gratification.
Well, past performance is not always a guide to future performance, and change is in the air. More and more investors and asset owners are now placing increasing focus on ESG. As an example, California State Teachers Retirement System, one of the largest asset owners in the world, has asked their fund managers to evaluate and assess 21 risk factors in each of their holdings, including, among others regulation, human rights, environmental and governance.
What is Bringing this On?
On 27 April 2017, CFA Institute hosted a Green Finance Forum in Hong Kong to explore this issue. The event was organised in conjunction with HKU SPACE and the Financial Services Development Council (“FSDC”), an advisory body that conducts policy research for the formulation of proposals to the Hong Kong government. This is the second event in the series and we were fortunate to have several industry veterans join us as speakers.
Martina Macpherson, Global Head of Sustainability Indices, S&P Dow Jones Indices, kicked off the evening’s proceedings with a keynote speech, during which she presented the milestones of sustainable investment over the last decade as well as the growing demand of “green” instruments by investors.
As an indicator, global labelled green bond issuance in 2016 was US$93 billion — more than double the amount of US$41 billion in 2015 — and approximately US$36 billion were issued by China alone. Furthermore, there have been concrete actions from the corporate sector in their commitment to create long term shareholder value in terms of reporting, tracking and measurement of sustainable development goals.
In time, the value chain will move from “green” instruments to sustainable finance, and with improved data and metrics, investors should be able to make better investment decisions on the elements that are most relevant and investable.
The Growth of the ESG “Phenomenon”
Ms. Macpherson’s presentation was followed by a panel discussion in which she was joined by industry veterans in professional advisory, investment banking, and asset management, whose work give them different perspectives of the ESG “phenomenon.” During the panel discussion, we explored some of the reasons behind the growth in sustainability investments, the importance of aligning definitions and standards, the evidence of a positive correlation between ESG and investment performance, and how integrating ESG issues into investment decisions may be more natural and instinctive than most people assume.
In Hong Kong, the FSDC published a report titled “Hong Kong as a Regional Green Finance Hub” in May 2016 recognizing the market potential in this area. The report includes key recommendations for green finance that allows Hong Kong to capitalize on this opportunity. Some key recommendations in the report include a strategic green bond issue by the Hong Kong government, coordination of green finance activities, the cultivation of a green investor base, and the development of a green labelling and green project accreditation scheme. According to Ms. Routh, who also sits on the FSDC working group, “Hong Kong needs to prove that it has the capacity and capability to assist China in this important strategic direction.”
On a related note, as the forthcoming Bond Connect between Hong Kong and China is implemented, Hong Kong will play an increasingly important role in channelling international capital into China’s green bonds, and international investors will look to Hong Kong for guidance on governance issues in particular.
Perhaps one of the most positive notes in the evening came when an audience member enquired if global efforts to reduce carbon footprint may be jeopardised by the potential withdrawal of the Paris accord by the new US administration. Ms. Routh had this response, “The will and determination we have witnessed from the PRC government to de-carbonise has been a real game changer.” According to PwC’s Low Carbon Economy Index, China was the country whose economy de-carbonised the fastest out of all the G20 countries in 2015. China did this by reducing its coal use by 29 million tons oil equivalent in one year, which was greater than the total annual coal consumption in the UK. Ms. Macpherson further pointed out that as China and other countries, and even US states such as California, re-iterated their commitment to the Paris accord, there is still cautious optimism on the speed and progress of global de-carbonisation.
The forum attracted over 100 attendees including CFA members, industry practitioners, think tanks, environmental and other NGOs.
Mary Leung, CFA, Head, Standards and Advocacy, Asia Pacific, CFA Institute
Jonathan Drew, Managing Director, Infrastructure and Real Estate Group, Global Banking Asia-Pacific, HSBC
Simon Weston, Senior Fund Manager, AXA Investment Managers
Hannah Routh, Director, Sustainability and Climate Change, PricewaterhouseCoopers
Martina Macpherson, Global Head of Sustainability Indices, S&P Dow Jones Indices
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Photo Credit: CFA Institute