Sustainable Investing Gains Momentum in Asia
With Tomomi Shimada, APAC Sustainable Investment Strategist, J.P. Morgan Asset Management
Sustainable investing in Asia is now – somewhat belatedly – growing fast. How great is the market potential? How much of a gap remains with Europe?
Europe remains the uncontested leader in ESG investing but momentum is building in Asia, with net inflows into sustainable funds of close to $8 billion in 2020, approximately 10 times that of 2019.
If we look at sustainable investment performance, the evidence so far clearly shows that sustainable investing does not compromise returns. As the broadest proxy for equity market performance, we can compare the MSCI World Index with MSCI World ESG leaders, an index that tilts toward ESG leaders in each sector. We can also chart this alongside the MSCI World Governance-Quality Index, which aims to reflect the performance of a strategy that is seeking to capture both the financial and corporate governance aspects of quality investing. The two ESG indices have mostly matched or outperformed the broader world index, as shown in the chart below.
At the same time, the ESG market size is growing rapidly. Sustainable investment assets under management are ticking up at an 8% compound annual growth rate in Europe. Coming off an admittedly much lower base, they are growing even faster (17% CAGR) in the United States. Signs indicate that Asia is catching up, with growth in Japan overwhelmingly driven by institutional investors and the Bank of Japan, and with already strong ESG investing adoption in Australia and New Zealand continuing at a rapid pace.
Overall ESG assets remain dominated by Europe, accounting for about 81% of the global sustainable fund universe, largely because of its long history of responsible investing and favorable regulatory environment. In terms of fund flows, Europe also remains the leader in ESG investing. However, Asia is gradually gaining momentum.
Other than fund flows toward ESG, another key driver in Asia is the increasing number of ESG investment regulations being adopted or discussed in various economies. The ongoing industry and regulatory development should help create a sound infrastructure for sustainable investment, thereby boosting the momentum of ESG investing within Asia.
Major Asian economies—China, Japan and South Korea—announced net-zero/carbon neutral targets. China’s carbon dioxide (CO2) emissions will peak sometime before 2030, with the goal of achieving carbon neutrality, or net-zero emissions, by 2060.
The production of energy from coal is one of the largest contributors to CO2 emissions. Responsible for 28% of current energy consumption, this will have to be slashed to 2% in the coming decades. This will need to be offset by a five-fold increase in energy consumption sourced from renewables and other non-fossil fuels, from 15% to 78%.
The global energy system has historically been dominated by a single energy source. The ongoing energy transition suggests the global energy mix is going to be far more diversified in the future, with increasing demands for integration across different and more environmentally friendly fuels and energy services.
Carbon emissions reduction could also profoundly impact heavy and energy-intensive industries such as steel and cement production. These industries will need to innovate or face rising costs of production.
ESG investing across Asia will become an even more prominent driver in the coming years as the value of assets under management (AUM) increases. We expect ESG metrics will be increasingly integrated in asset managers’ investment processes, not only as a risk measure but also when considering the return metrics across investments. We believe there is still some mispricing in capital markets, and hence room for alpha remains for long-term investors.”
You’re in the process of expanding your Asia-based dedicated sustainable investing team. What factors drove that decision?
Our approach to sustainable investing builds on our history of active management and stewardship, where a key strength of our investment process is our in-house research capabilities, on both a fundamental and a quantitative basis. ESG is integrated systematically across our strategies, and hence it was important to us that we have dedicated specialists in sustainable investing who can partner with our investment teams on the ground in Asia.
My appointment (as Lead APAC Sustainable Investing Strategist) is the firm’s latest move in significantly expanding our Asia-based, dedicated sustainable investing team across research, client solutions, data analytics and investment stewardship. Since mid- 2020, the firm has hired or relocated 5 new team members in Asia, with plans to continue to add resources. With a dedicated and growing team on the ground in Asia, working closely with our portfolio managers and research analysts across the region who are focused on ESG, as well as partnering with clients to deliver innovative solutions and impacts, we are excited about continuing to strengthen our ongoing commitment to sustainability.
What are the major areas of opportunity for sustainable investing in the region?
One of the biggest opportunities we see is the low carbon transition. The move to a lower carbon economy will have material financial impacts on companies and our investment portfolios. We are expecting more policies and commitments to be announced to drive the transition, which will also be catalysts for investment opportunities. We believe this will be especially pronounced in Asia, as many countries within the region still need to go through transformation and policies are changing rapidly.
As investors, we strive to capture that momentum of change from a return enhancement perspective, in addition to being aware of the risks associated with the transition. It is important that we have the right research framework, the right ESG data, and the right processes to identify companies and assets that are best positioned to benefit from this transition. To this end, we incorporate our insights on these emerging sustainable themes into our ESG integrated strategies, as well as our dedicated sustainable products across different asset classes.
Which jurisdictions are likely to become green finance hubs in Asia Pacific?
We’re seeing increasing awareness and engagement across the spectrum of stakeholders and right across this region – from institutional asset owners to retail investors to investment consultants to financial intermediaries to regulators and policymakers – so it’s a broad-based pivot towards greater consideration of ESG factors, especially climate change.
While we’re seeing activities across many jurisdictions, both Hong Kong and Singapore have made significant early moves to encourage the development of respective green finance/sustainable investing ecosystems, including adopting policies to encourage greater corporate sustainable information disclosure, establishing oversight of sustainable investment solutions to build market best practice standards, as well as measures to create more robust issuance standards for green bonds etc.
From a global investor perspective, coherence with existing policies and ecosystems such as the TCFD, Paris Agreement, etc. is also important to operate efficiently. We expect jurisdictions that are able to work out the right balance between adopting policies that are meaningful to their specific market, and at the same time aligned to global standards, will be successful in becoming green finance hubs in Asia Pacific. We would expect to continue to see this momentum build.”
Can you share with us some of the key elements of your ESG scoring framework?
We are currently in the process of building our in-house JPMAM proprietary quantitative ESG scoring system to assess companies’ management of financially material ESG issues. Our proprietary scoring system will combine sector expertise and technology, complementing our investors’ existing approaches to assessing companies’ ESG performance and taking us towards a forward-looking, data-driven method of ESG investing.
It will do so by:
- Drawing on detailed sector insights that our portfolio managers and research analysts have acquired as part of our fundamental research processes in order to identify financially material ESG issues.
- Wherever possible, focusing on hard, forward-looking data from various data sources to help us accurately measure financially material issues.
- Leveraging our data science capabilities, such as machine learning algorithms and natural language processing (NLP) that can generate meaningful sentiment signals, to exploit alternative data sets and enrich our understanding of ESG factors beyond corporate disclosures, at scale.
Our quantitative ESG scoring system will draw on our deep fundamental insights into which ESG factors matter most in a given industry with a wide range of data sources (including alternative data).
All investors will be able to drill down into the underlying datasets to help inform their decisions. We expect the investment teams to begin adopting the enhanced quantitative score starting in mid-2021. In most cases, investors will combine these quantitative ESG scores with existing, qualitative ESG assessments that draw on our firm-specific fundamental insights.”