Net inflows into South-east Asia ESG funds up 11.2% in 2023

SUSTAINABLE funds in South-east Asia attracted more capital in 2023 than in 2022, bucking the global trend of lower inflows.

Last year, a net US$324.7 million flowed into funds that are domiciled in South-east Asia and tagged with a sustainability label. This figure is 11.2 per cent higher than the US$291.9 million of net inflows recorded for 2022, according to data from Morningstar.

The global universe of sustainable funds netted inflows of US$63 billion last year, a 60.9 per cent decline from US$161 billion of net inflows in 2022.

South-east Asia’s sustainable funds had a weak start last year, as Morningstar data showed net outflows in the first and second quarters of the year.

These reversed into net inflows in Q3, however, and the trend continued into Q4. Net inflows came to US$137.4 million for Q4 2023, up from net inflows of US$94.4 million in the year-earlier period.

In general, investors seem to be more bullish on South-east Asia. Funds domiciled in the region without the sustainability tag also saw higher net inflows of US$19 billion in 2023, reversing from net outflows of US$10.3 billion in 2022.

These non-ESG funds recorded almost US$3 billion of net inflows in Q4 2023, against net outflows of US$1.2 billion in the same period the year before.

The region’s sustainable funds, however, are attracting attention because of increased focus among South-east Asia’s regulators on sustainable finance, several asset managers and market watchers told The Business Times.

There is also greater investor interest in ESG as a tool for risk management and to generate outperformance.

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While there were higher net inflows across the board, Tom Cascales, vice-president of climate and ESG capital markets at NatWest, said non-sustainable funds still offer a wider spectrum of investment solutions than their sustainable counterparts. 

Last year was also a good year for sustainable funds. Although South-east Asian funds generally did better in 2023 than in 2022, sustainable funds achieved higher returns on average.

Sustainable funds in South-east Asia averaged a full-year return of 4.8 per cent last year, reversing from a return of minus 20.4 per cent in the previous year. The return for Q4 2023 came in at 8.7 per cent, compared with 7.3 per cent in the same period a year earlier.

Non-ESG funds, meanwhile, recorded a return of 3.1 per cent for the whole of 2023, compared with minus 12.4 per cent in 2022. The Q4 2023 return of 6.4 per cent was slightly lower than the 6.6 per cent recorded in the same period in 2022.

Expectations that interest rates will fall and the global economy will avoid a recession were the main drivers of better fund performance across the board, said Cascales.

ESG funds, however, outperformed because they tend to include a higher proportion of technology stocks. They also have lower exposures to the energy and utility sectors, which underperformed last year.

Continued outperformance will depend, to some extent, on how companies respond to new regulations being implemented in the European Union and the United Kingdom.

Both the EU and the UK, for instance, are introducing a carbon border adjustment mechanism, which imposes a carbon tax on carbon-intensive imports.

The EU has also implemented a corporate sustainability reporting directive (CSRD), and is soon expected to adopt a corporate sustainability due diligence directive (CSDDD).

CSRD establishes a sustainability reporting framework for listed companies and requires large non-EU companies operating in the economic bloc to publish such reports, while CSDDD requires companies to establish due diligence strategies regarding human rights and environmental issues.

Joanne Khew, director and ESG specialist at Eastspring Investments, noted that there have been discussions to impose fines of up to 5 per cent of a company’s global turnover if it breaches CSDDD requirements.

“Asean is home to a significant proportion of companies dealing in the commodities supply chain and may thus face exposure to CSDDD compliance risk,” she said.

“The impact of ESG regulations still need to be fully understood as they come into full effect over the near to mid-term, especially in Asia where compliance risk may not be insignificant.”

Cascales, however, said emerging regulations are also an opportunity for sustainable funds to demonstrate that they are better able to manage their exposures to transition risk.

Another major risk factor is the polarisation and politicisation of sustainable investing, especially as 2024 is an election year for several major economies.

Across the Asean markets, though, many governments have made clear that climate and sustainability are on top of their agenda, Cascales said.

“(They are) developing a full set of regulations supporting sustainable capital markets such as taxonomy, mandatory climate reporting, and transition planning,” he said.

The growing emphasis on nature-related risks and solutions, as well as transition, are opportunities for ESG funds to commercialise new investments solutions, which will help drive net inflows, Cascales added.

David Smith, senior investment director of Asian equities at abrdn, said Asean remains popular among investors given its long-term growth potential.

The region should benefit from a confluence of growing populations, economic growth, growing domestic consumption, urbanisation and a rapidly rising middle class.

“We see opportunities across the region, particularly relating to ESG opportunities, including, for example, in energy transition, financial services, and access to healthcare,” he said.

“The latter is of crucial importance given access to healthcare services is still severely lacking across some parts of Asia,” Smith added.