Portfolio managers and analysts are increasingly incorporating environmental, social, and governance (ESG) factors in their investment analyses and processes.
However, ESG integration remains in its relative infancy, with investors and analysts calling for more guidance on exactly “how” they can “do ESG” and integrate ESG data into their analysis.
The CFA Institute and the Principles for Responsible Investment (PRI) set out to create a best practice report (Guidance and case studies for ESG integration: equities and fixed income) and three regional reports (one for the Americas, one for Asia Pacific [APAC], and one for Europe, the Middle East, and Africa [EMEA]) to help investors understand how they can better integrate ESG factors into their equity, corporate bond, and sovereign debt portfolios.
We are able to achieve this goal by:
- surveying 1,100 financial professionals, predominantly CFA members, around the world;
- running 23 workshops in 17 major markets;
- interviewing many practitioners and stakeholders;
- publishing more than 30 case studies written by equity and fixed income practitioners;
- analysing Bloomberg’s ESG company disclosure scores; and
- reviewing data from the PRI Reporting Framework, the largest global database of information on investors’ ESG practices.
The above-mentioned best practice report contains guidance on ESG integration in equity and fixed income investments and case studies on how ESG integration is “done” by leading practitioners. This report focuses on the current state of ESG integration in the APAC region. We hope that investors find this report and its companion reports useful and that these reports help investors learn how they can better integrate ESG data into their analysis and investment decision making.
Our main findings include the following points:
- There is no “one best way” to do ESG integration and no “silver bullet” to ESG integration.
- Governance is the ESG factor most investors are integrating into their process.
- Environmental and social factors are gaining acceptance, but from a low base.
- ESG integration is farther along in the equity world than in fixed income.
- Portfolio managers and analysts are more frequently integrating ESG into the investment process, but rarely adjusting their models based on ESG data.
- The main drivers of ESG integration are risk management and client demand.
- The main barriers to ESG integration are a limited understanding of ESG issues and a lack of comparable ESG data.
- Investors acknowledge that ESG data have come a long way, but advances in quality and comparability of data still have a long way to go.
- It would be helpful for issuers and investors to agree upon a single ESG reporting standard that could streamline the data collection process and produce more quality data.
- Many workshop participants were concerned that ESG mutual funds and ETFs offered to investors may be driven by marketing decisions and may not be true ESG investment products.
Top regional findings
- Australian practitioners perform advanced qualitative and quantitative analysis of ESG factors to add insights at multiple levels: company, industry, and overall market. Unlike most markets, the number of practitioners who adjust their security valuations is only slightly lower than the number of practitioners who directly overlay qualitative ESG factors into their portfolio construction decisions.
- Corporate governance is far and away the ESG factor most integrated by investors in the investment process, although survey participants expect environmental and social issues to become much more integrated in the investment process in the near future.
- Risk management and client demand are the main factors driving ESG integration in Australia, with fiduciary responsibility seen as a main factor among fixed-income investors. A lack of understanding of ESG issues and a lack of company culture around ESG integration are the main barriers in Australia to ESG integration.
- China has seen a significant uptake of ESG investing in the last couple of years. Like other emerging markets, a major driver has been ESG integration demand from international investors. Unlike some other markets, regulation has also been a major driver.
- The evolution of ESG investing in Chinese investment firms tends to start with developing ESG products first, such as a green thematic mutual fund. However, it can quickly advance to incorporating ESG terms into the investment philosophy and ESG factors into investment research, processes, and decisions.
- A limited understanding of ESG issues, a lack of company culture around ESG investing, and lack of comparable historical ESG data are seen as the main barriers to ESG integration. The inclusion of the China A-share market in the major indices has improved the data coverage and encouraged local companies to develop databases on ESG information.
Hong Kong SAR, China
- There is a growing awareness of ESG in Asia but a relatively low level of ESG integration in Hong Kong SAR. Asia hasn’t completely bought into it yet and needs proof of alpha and a stronger framework around ESG before ESG integration becomes more widespread.
- Corporate governance is the most impactful ESG factor according to survey respondents, with social and environmental factors becoming much more influential on share prices and bond yields over the next five years.
- Risk management and client demand are the main drivers of ESG integration in Hong Kong SAR. Client demand for ESG is likely to continue its upward trajectory as institutional investors and some retail investors want ESG investments. The demographics are changing across Asia, increasing the demand.
- The buy-in for ESG investing in India has been slow over the last few years. While there are some early movers, most investment managers are not witnessing demand for ESG products or asset owners with policies that explicitly ask for ESG practices to be incorporated in an investment manager’s process. Where there is demand, it is predominantly from multilateral institutions and European investors.
- About two-thirds of financial professionals in India feel that corporate governance issues “often” or “always” impact share prices compared to one-third for environmental and social issues. In five years’ time, however, well over half of those surveyed feel that environmental issues will “often” or “always” impact share prices and bond yields.
- The main barriers to equity and fixed-income integration in India are a limited understanding of ESG issues, a lack of company culture around ESG integration and a lack of client demand. While the awareness is increasing due to foreign investors, there isn’t the same level of interest from local investors. ESG investing is not receiving attention from the larger institutional investors in the Indian market, which has made a difference in other markets.
- There was a recognition among workshop participants that ESG integration is just beginning to happen in Japan. Equity practitioners integrate ESG factors more frequently than fixed-income practitioners do. For both sets of practitioners, integrating ESG factors at the portfolio level is not yet commonly practiced.
- Corporate governance is the ESG factor most incorporated into share prices and bond yields by investors by a factor of 2 to 1.
- Fiduciary duty is a driver of ESG integration in the equity space, only behind risk management, while client demand for ESG integration mostly drives adoption in fixed income. Lack of understanding of ESG, limited data, and concerns about returns are barriers to ESG integration in Japan.
- There is increasingly more ESG integration in Singapore and Asia, and ESG issues are more frequently impacting prices. Asian economies are maturing. Asian countries are thinking more about the long term and not just about putting food on the table today. Asian countries are at the beginning of the journey but very eager to learn quickly about ESG.
- Survey participants feel that environmental and social factors barely influence bond yields today but feel that those numbers will impact bond yields a great deal in five years’ time.
- A lack of comparable and historical data is the top barrier to incorporating ESG factors in equity investments in Singapore. The workshop participants were positive about data coverage and quality improving in the future, including for small companies, but there are still large gaps in the data that need to be filled.
Markets where the 23 ESG workshops were held:
- AMER: Brazil; Canada; and US.
- APAC: Australia; China; Hong Kong; India; Japan; and Singapore.
- EMEA: France; Germany; Netherlands; Russia; South Africa; Switzerland; UAE; and UK.
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