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Two types of ESG investing
Research has shown that robust sustainability practices and non-financial improvements of environmental and social factors tend to lead to higher business valuations over the long term, a topic we have written about previously.
Investors can seek to capitalise on this tendency in two ways: 1) by allocating capital to existing ESG leaders and 2) by allocating capital to companies making a genuine effort to improve their sustainability and which are open to consistent levels of engagement. In the latter case, investors can often help drive the change - for example, by encouraging greater energy efficiency or better employee safety protocols - which should ultimately lead to more sustainable investment returns.
Asian companies offer scope for big ESG changes
Many Asian companies fall into the second category of those firms seeking to improve their ESG profiles. Based on the distribution of current MSCI ESG ratings, Asia excluding Japan has a smaller proportion of companies regarded as ESG leaders than Europe does (although Japan outperforms the US by this measure).
This creates opportunities, as Asia has a large universe of firms that could benefit from improving their ESG credentials. ESG awareness has been rising rapidly in Asia in recent years, as evidenced in our 2021 Fidelity Analyst Survey. Climate change and the Covid-19 pandemic have brought ESG considerations to the fore even in markets where economic growth has been the main priority.
Across the board, environmental and social protection measures have increased, and more consumers are voting with their wallets and opting for sustainable products. People are seeking to work for firms that are more aligned with their own values and investors are rewarding good ESG companies with cheaper financing.
ESG due diligence and effective engagement are key
Finding the companies that really are making ESG improvements, however, is not easy. Greenwashing remains a risk globally and investors need to be able to conduct thorough ESG due diligence that goes beyond a simplistic ranking based on company disclosures, especially as disclosure is not mandatory in many Asian markets and can be patchy.
Fidelity’s proprietary ESG ratings help address these issues, as they are drawn from our regular interactions with investee companies, conversations with stakeholders (past employees, suppliers etc.) during our due diligence process, and the industry expertise of our 160+ global sector analysts. These factors allow our ratings to be forward-looking, closely tied to business fundamentals, and often ahead of market perception.
Once investors have identified the right companies, they can engage with them regularly and offer advice and feedback to ensure that progress on ESG is achieved. Our experience shows that companies are more likely to adopt an ESG suggestion when made in the context of business development. This requires investors to have a deep understanding of the company’s business, its history and future plans, and the people behind it. For those investors that do, and who understand the local context or better yet have a local presence, Asia is poised to be a major market for decades to come in terms of driving sustainable development.