【Certified ESG Analyst Insights Sharing】Delton Lau, CESGA

Sustainable Investment Remaining Valued

The three-year COVID-19 pandemic once sent global asset prices plummeting. However, in terms of the annualized rate of return of the market during the three years, the Dow Jones Sustainability Index (the index was set up in 1999 as the world first to track ESG Enterprise Financial Performance) outperformed the Dow Jones Global Index. The Dow Jones Sustainability Index covers the leading sustainable enterprises around the globe identified by S&P Global and represents the top 10% of the largest 2,500 companies in the S&P Global BMI based on long-term economic, environmental, and social criteria. It achieved a return of approximately +7%, compared to approximately +6% for the Dow Jones Global Index. Therefore, it can be seen that enterprises with a sustainable business model are better at mitigating the impacts of market risks on business and profits, thus improving the resilience of stock prices.

Capital inflow also reflects an increase in investors’ interest in sustainable investments. According to the latest report ‘Global Sustainable Fund Flows: Q2 2023 in Review’ published by Morningstar, despite inflationary pressure, increased interest rates, worries over a global economic recession, and the war in Ukraine, global sustainable funds still registered $18 billion in net capital inflow during the second quarter. Although this reflects a slight decrease from $31 billion in the previous quarter1, developed countries and regions with a leading position in sustainable investment, such as the U.S., Europe and Japan, still reported growth in capital inflow during this period with full of uncertainties. This demonstrates that investors still recognize the importance of ESG investment. Global enterprise management will continue to increase investment in ESG to improve businesses’ ability to handle sudden changes in the economy. By doing so, management can strengthen their positive image and maintain a relatively stable level of medium to long-run enterprise development, thus winning the favour of more investors.

Continued Evolvement of Sustainability Rating

Investors, in general, have difficulty assessing the ESG levels of enterprises objectively and need to rely on ratings issued by reputable organizations. These organizations have been actively revising ESG criteria to provide investors with a simple and direct approach to measure the ESG performance of enterprises.

In March 2016, Morningstar rolled out the Morningstar Sustainability Rating, the first sustainability measure for mutual funds. This rating facilitates investors’ assessments and comparisons between various funds based on the principles of sustainable investment. The Morningstar Sustainability Rating is applied by Morningstar’s sustainability assessment body, Morningstar Sustainalytics, to assess companies based on ESG factors, including the environmental, social and governance. It also takes into account issues that may impact company values, such as climate change, environmental performance, labour policies, and the composition of the board of directors. The rating calculates and rates fund positions and compares their sustainability scores with those of similar funds in Morningstar. Funds are eventually classified into five ratings, with one ‘globe’ representing the fund with the highest ESG risk relative to similar funds, and five ‘globes’ representing the fund with the lowest risk.

Hong Kong is making efforts to catch up in this area. In August 2021, the Hong Kong Securities and Futures Commission (HKSFC) concluded its consultation in respect of amending the Fund Manager Code of Conduct. The amendment requires fund managers responsible for managing collective investment schemes to consider climate-related risks in their investment and risk management processes and make appropriate disclosures to investors. When formulating the relevant rules, HKSFC personnel also considered international regulatory developments and measures, such as those adopted by the European Union and the Task Force on Climate-related Financial Disclosures (TCFD). They outlined the criteria for managing climate-related risks and provided examples of industry practices. The new rules came into effect on August 20, 2022, and local investors can identify green funds certified by the HKSFC. As of August 2023, the number of listed and unlisted ESG funds recognized by the HKSFC has already reached 2002.

Prospects for Sustainable Development as an Important Issue for Global Enterprises

Climate change is the greatest challenge facing by the Earth, and requires to be addressed through transformation towards a low-carbon economy. What sets apart the current developments in climate change from 10 years ago is the increasing participation of policymakers and enterprises. Governments and businesses have implemented policies and made commitments to address climate change. One prominent example is the Paris Agreement signed by world leaders in 2015, which spurred the adoption of national policies aimed at combating global warming. These world leaders agreed to collectively take action to limit global temperature increases to around 2°C compared to pre-industrial levels in the 1800s.

The difference in climate change developments from 10 years ago also lies in the recognition by enterprises of the risks and opportunities associated with climate change. Climate-related investments now less reliant on government support than they did a decade ago, but policy support still plays a crucial role in accelerating climate developments, especially in heavy industries. Without government intervention, decarbonization technologies would not attract enterprise investments due to low economic efficiency, which is not conducive to climate developments. Climate change was not even listed as one of the five major global risks a decade ago. The impacts of global warming on the economy and companies are profound, far-reaching, and significant. Companies that are aware of these threats and actively address them at an early stage, or incorporate climate change-related issues into their solutions, will ultimately emerge as winners.

In summary, with the world working together towards promoting “carbon neutrality” and addressing climate change risks, there will be extensive commercial opportunities for exploration by Hong Kong and global asset management organizations.

  1. https://www.reuters.com/sustainability/sustainable-finance-reporting/sustainable-funds-grab-new-money-worldwide-q2-lag-us-morningstar-2023-07-28/
  2. https://www.sfc.hk/TC/Regulatory-functions/Products/List-of-ESG-funds