Few investment ideas have captured investors' imagination as quickly and broadly as environmental, social and governance (ESG) investing.
In a Macquarie survey of 180 asset managers responsible for $21trn in assets, the proportion of respondents, who said ESG factors either “governed” or “had significant influence” over investment decisions, rose to 71% in 2021, up from 42% in 2019.
Such has been the ubiquity of ESG in the investment sphere that there is now more intense scrutiny as a result. Criticisms around greenwashing, which were already commonplace, came to a head when the offices of German asset manager DWS were raided over such allegations.
On a separate front, Russia’s invasion of Ukraine brought into focus other hard questions, such as whether European governments should temporarily revert to more pollutive coal power in order to stop buying gas from Russia. Or whether it is acceptable to invest in the defence industry, as some of their products can be vital for self-defence against an invading force.
The rapid advance of ESG as a hot investing trend has led to a profusion of interpretations of what ESG means, which becomes a potential source of confusion and contradiction. This is especially so as investors navigate a world of diverse and shifting causes and issues, ranging from climate change to democratic freedoms.
There has never been a time when an investor needs to be more clear-headed about what ESG investing stands for and what it is supposed to achieve for its stakeholders.
ESG in Asia
In recent years, the increased focus on ESG has validated our beliefs. Yet, the complex and fast-changing economies and societies that make up Asia, i.e. the very characteristics that make Asia a rich source of investment alpha, continue to be a challenge confronting investors looking to apply ESG analysis across Asian asset classes. This is a good thing, as investors who can do this successfully will likely add even more value to alpha generation.
Part of the reason for this complexity is the diverse stages of economic development in Asia, where GDP per capita can range from as low as $1,500 to as high as $60,000. Such disparity leads to vastly different economic and social priorities, as well as the broad spectrum of opportunities and risks among ESG factors.
Lower-income countries could present opportunities to access necessities, such as food, power, infrastructure and financial services. In contrast, higher-income ones may prioritise dealing with the adverse effects of climate change or an over-reliance on private tutoring.
There is also deep cultural diversity within Asia (and versus the developed markets), with countries having varied backgrounds regarding their religious beliefs, political ideology and economic models.
The challenge for ESG-conscious investors is often to disentangle the universal ESG factors needed in evaluating each investment opportunity from specific values and political views, where an unbiased stance is more appropriate.
Asian companies often have ownership structures that differ from those in developed economies. In Asia, majority ownership, either by the state or founding families, is predominant.
Assessing governance must then be conducted less according to market-oriented norms, but by applying a more granular understanding of the objectives, character, and motivations of the majority owners, whether state or private.
What can we do
While there is no doubt that investors need to incorporate ESG into their investment processes, there is little consensus as to exactly how this should be applied. Approaches range from hard exclusions to overlaying external ESG frameworks and ratings to internal research.
On our part, we found it most meaningful to start with strong or improving ESG performance, as we think this is essential for generating higher sustainable returns.
We have no doubt that ESG investing will continue to develop, evolve, and mature, with investors also having to adapt how they integrate ESG into their investment processes.
Peter Monson and Lai Yeu Huan are senior Asian equity portfolio managers at Nikko Asset Management. The views expressed above should not be taken as investment advice.