The rise of ESG investing in Asia

BY incorporating environmental, social and governance (ESG) factors into investment decisions, responsible investment is no longer a niche area in Asia. Although the Global Sustainable Investment Alliance (GSIA) states that assets managed under responsible investment strategies remains very low in Asia ex-Japan at only 0.8 per cent of total assets under professional management, well below Europe's 53 per cent, the region presents significant growth opportunities for sustainable investments in the coming years.

ESG investing is becoming increasingly relevant and appealing due to the region's urgent environmental concerns.

Asia's government pension funds are taking the lead to integrate ESG principles in their investment process. Japan's Government Pension Investment Fund (GPIF), the world's largest pension fund with US$1.3 trillion under management, and South Korea's National Pension Service (NPS), have made significant allocations to ESG strategies. Japan's GPIF has decided to put US$8.9 billion into three ESG indices to raise its allocation to ESG investments to 10 per cent of its equity holdings from 3 per cent in July.

South Korea's NPS has signed up to the Principles for Responsible Investment (PRI) while Taiwan's Bureau of Labour Funds (BLF) has set aside US$2.4 billion for the Global ESG Quality Fix Equity Indexation mandate.

POLICY TAILWINDS SUPPORT ADOPTION OF ESG FACTORS

The active engagement of government pension funds and sovereign wealth funds offers a big boost for ESG investing across Asia. According to the CFA Institute, Asia's current ESG assets under management reached US$500 billion, accounting for 2.2 per cent of the US$23 trillion ESG assets managed globally.

Japan accounts for about 90 per cent of Asia's ESG assets under management and other Asian countries are expected to catch up on sustainable investments.

ESG assets under management in Asia ex-Japan are estimated to reach US$52 billion, mainly led by Hong Kong, South Korea and Malaysia.

Stock exchanges in Singapore, Hong Kong, Malaysia and Thailand have mandated sustainability reporting from their listed companies. The Singapore Exchange requires inclusion of a materiality analysis, performance indicators and a board statement for a sustainability report as mandatory for listed companies.

RAPID GROWTH OF GREEN INVESTMENTS IN CHINA

After the United States retreated from the Paris accord, China has stepped up collaboration with its European counterparts to assume global leadership to fight climate change. At the 19th National Party Congress, Chinese President Xi Jinping reiterated China's strong policy focus on green development. Since 2016, China has overtaken the US to become the world's largest issuer of green bonds. China issued US$36 billion worth of green bonds in 2016, up from almost none in 2015, accounting for 39 per cent of the world's total green bonds issuance.

To capitalise ample market liquidity to finance low-carbon projects, China has established five "green finance" pilot zones in Guangdong, Guizhou, Jiangxi, Zhejiang and Xinjiang. Hydro, wind, solar and nuclear energy accounted for 20 per cent of China's total energy consumption in 2016, up from 14.5 per cent in 2012.

China has announced plans to have 20 per cent of vehicles running on alternative fuel by 2025.

More stringent environmental protection regulations and higher mandatory energy efficiency targets will drive significant growth in green investments in China in the next five years. The China-Hong Kong Bond Connect offers a direct channel for foreign investors to purchase Chinese green bonds.

DEMAND FROM NEXT-GEN INVESTORS FOR ESG STRATEGIES

With the upcoming transfer of significant wealth to the millennial generation in Asia over the next decade, the new generation of investors are more socially conscious and environmentally friendly than their parents.

According to findings from the 2017 Essence of Enterprise Report issued by HSBC Private Banking, Asian entrepreneurs in their 20s prioritise their influence and impact on local community more than the older entrepreneurs. The new generation invests in things that they believe in and support.

We expect increasing inflows into ESG assets in Asia as the millennial wealth owners are showing strong interest in ESG investment opportunities with exposure to green energy, sustainable infrastructure, socially responsible and ethical companies.

In our view, ESG factors are useful parameters to help investors manage financial risks arising from environmental events, reputational damage and governance issues. Notably, the MSCI EM ESG equity indices have outperformed the MSCI EM Index by 16 per cent over the past five years, showing that ESG factors are arguably more relevant in emerging markets as they are less efficient than the developed markets.

Our analysis shows that half of the key medium-term value drivers of emerging market companies are ESG-related. Driven by the tailwinds of strong government support and rising sustainable awareness from the new generation of private investors, we expect to see broader adoption of ESG factors into mainstream investment decisions in Asia.