Environmental, social and governance (ESG) investing has entered the mainstream, and is transforming the way investors look at value. No longer are investments assessed purely in terms of financial returns; a host of other factors are considered, whether it’s a company’s carbon footprint or the impact a major infrastructure project will have on the local community. This is a welcome development, not least because these factors also have a demonstrable effect on investment performance. But ESG considerations add additional layers of complexity to the investment process that heighten the need for active portfolio management, backed by proprietary research.
Over the last few years ESG investing has seen extraordinary growth. A recent survey of institutional investors worldwide by the Morgan Stanley Institute for Sustainable Investing found 84% were pursuing or actively considering pursuing ESG integration in their investment process, and that 60% had started implementing ESG strategies within the last four years.
While Asia was a relative latecomer to the trend, ESG has also become a priority in the region, with major institutional investors like Japan’s Government Pension Investment Fund (GPIF) steadily taking steps to boost ESG allocations. Assets and products have emerged to meet this demand, from green bonds to funds targeting sustainable development.
Along with this shift have come efforts to define ESG factors and principles more clearly, and to identify and capture the added value these can bring to a portfolio. On the one hand, introducing more ESG-related requirements into a company’s processes can raise costs. Yet investments in areas like energy efficiency and employee health can also result in cost savings and productivity gains, benefiting the bottom line -- and ultimately investment performance. The growing body of academic research on the topic paints a fairly positive picture. Reviews of studies on the links between ESG and the performance of asset classes like equities, bonds and real estate have shown a clearly positive correlation.
There is also a growing body of evidence that failing to consider ESG-related factors can expose companies and their investors to serious risks. The fallout from the 2013 Rana Plaza garment factory collapse in Bangladesh, which put global retailers under immense pressure to rejig their supply chains, or the massive losses suffered by Tokyo Electric Power Company Holdings (Tepco) on the back of the Fukushima nuclear disaster, are just two cases in point. Research indicates companies with solid ESG credentials tend to surprise markets less often than those with lower ESG scores, and that ESG exposure is a solid predictor of risk across the global equity investment universe. Thus it is important for the investors to consider this factor.
