The rise of responsible investing

Category: Asia, Hong Kong, Taiwan, Global
By Hui Ching-hoo

Taking a long-term view with sustainable strategies

Asia Asset Management held its 12th Annual Taiwan Roundtable on October 28, in cooperation with AllianceBernstein, First State Investments and Robeco. The main focus of the event was on how to promote a sustainable regime among pension funds and institutional investors across Asia.

Professor Ding-Yuan Chen, executive secretary of the Private School Faculty Pension Fund, highlighted the challenges faced by Taiwan’s retirees, identifying low funding ratios and the prolonged deficit in defined benefits (DB) for labour pension funds as major hurdles that need to be addressed by the pensions industry.

“To cope with these issues, the authorities need to take heed of the World Bank’s initiative to build up a comprehensive multi-pillar retirement regime,” said Prof. Chen.

In his opening remarks, Chao-Hsi Huang, director general of the Bureau of Labor Funds (BLF) in Taiwan, asserted that it is critical for the BLF to further diversify its asset allocation under the current low rate environment; singling out smart beta, alternative, and socially responsible investing as major areas in which the bureau aims to raise its exposure.

In line with the bureau’s investment direction moving forward, Mr. Huang also revealed that the BLF would tender its first ESG (environmental, social and governance) mandate with an aggregated quota of US$2.4 billion before the end of the year. He also said it would outsource its absolute-return strategy fund, which currently stands at $3.6 billion.

“We’re planning to scale up the allocation in alternatives to 11% of total assets at the end of this year, from 6% in late last year,” Mr. Huang added.

Another keynote speaker, vice chairman of the Public Service Pension Fund’s (PSPF) management board, Feng-Ching Tsay, reiterated that the discussion topics of the roundtable – which included sustainable investing and investment strategies in the current low-yield environment – accurately depicted investment trends among pension funds worldwide.

“Responsible investing is gaining much more focus among institutional investors than ever before,” he remarked. Mr. Tsay further elaborated that institutional investors are putting more emphasis on three of its sub-categories: socially responsible investing, impact investing and ESG to structure their portfolios.

ESG implementation

David Wong, senior portfolio manager in equities for Asia Ex-Japan at AllianceBernstein, led the first presentation entitled Global Investing in Value Creation: Core Style-Agnostic Approaches to Consistent Alpha. He explained how ESG is embedded in the company’s research process via bottom-up issuer and industry analysis and identifying potential ESG issues including MSCI ratings.

“We pursue a buy/pass strategy during the investment decision process that includes explicit consideration of material ESG issues. We also monitor a range of sources for new and ongoing ESG issues, and engage with issuer management and others with a useful perspective,” he added.

The next speaker of the day was Arnout van Rijn, chief investment officer for Asia Pacific at Robeco, whose presentation topic was themed Practical Implementation of ESG Analysis in Asia.

To help portfolio managers integrate their investment strategy with ESG more effectively, Mr. van Rijn pointed out that Robeco provides them with an ESG model to assess Asian equities based on various benchmarks such as social responsibility and corporate governance.

“Active engagement is another area the company looks out for during ESG implementation,” he added. “Taking Hon Hai as an example [Apple’s major assembler], Robeco as the company’s investor had an active dialogue with the Taiwanese technology giant on improving its governance and labour standards.”

He went on to highlight lack of board independence, absence of strong audit committees and discard for minorities as the recurring themes in Asia when it came to corporate governance.

Trent Koch, portfolio manager of global listed infrastructure at First State Investments, was next with his presentation on Listed Infrastructure and the Importance of Sustainable Investing.

According to Mr. Koch, the listed infrastructure market has grown from around $2 trillion in 2010 to almost $3 trillion in 2016 globally. He explained that today, infrastructure is at the heart of sustainability, and the global listed infrastructure asset class is at the forefront of a worldwide effort to decarbonise the world’s economy as a means of reducing global warming.

“The decarbonisation of electricity provides significant investment opportunities for utilities in generation, transmission and distribution assets. Additionally, the largest capital expenditure opportunity for electric utilities is building a carbon-free, renewable, next generation,” he explained.

Institutional incentives

The day’s first panel was entitled Sustainable Investing: Taking the Long View. Janet Li, Willis Towers Watson’s director of investments for Greater China, initiated the discussion by pointing out that ESG investing is fast becoming a “magic word” amongst global institutional investors globally.

The number of signatories of the United Nation’s Principles for Responsible Investment (UN PRI) – a set of six guidelines on investing, based on incorporating and implementing ESG principles into investment decisions and analysis – has grown considerably since its inception in 2006. Ms. Li revealed that it now covers over 1600 signatories across 50 countries, including the Government Pension Investment Fund (GPIF) of Japan – the first UN PRI participant from the Asia-Pacific region to sign the treaty in November 2015.

Citing an ESG survey conducted by the CFA Institute, Ms. Li explained that the findings are consistent with industry reports that ESG investing is gaining traction in the mainstream, as 73% of global asset owners are considering incorporating ESG strategies into their portfolios. Of this, 64% respondents prioritise governance as a main area of focus to drive their strategies.

Despite the many ESG stewardship codes being implemented globally, Ms. Li remained sceptical on whether the regulation factor is a major driver for institutional investors to implement sustainable investing. “In fact, the CFA survey showed only 7% respondents were regulatory-driven to tap into ESG,” she commented, adding: “In comparison, another survey shows that the majority of the top 20 UK asset owners identify “peer pressure” and “internal demand” as their major incentives.”

From an ESG indexing standpoint, Ms. Li pointed out that the scarcity of customised indexes, especially for domestic ESG mandates, is considered to be a stumbling block in regard to the promotion of ESG investing. But she did add that global index providers are working hard to differentiate their product mix to fill the void. The launch of ESG indexes tracking its constituents’ carbon exposure was one of the examples she gave.

Li-Ju Liu, deputy director general of the BLF, explained that the bureau has long embraced the concept of socially responsible investing via its use of the Taiwan Stock Exchange’s corporate social responsibility (CSR) indexes, including the Taiwan Employment Creation 99 Index as the benchmark for its domestic mandates. She also revealed that the BLF is looking to further extend these types of benchmarks to its offshore mandates when more feasible CSR indexes become available:

Ms. Liu went on to say: “The BLF’s affiliated pensions currently have about $112 billion in total AUM. Around 45% of which are invested overseas. The bureau aims to scale up its offshore investment proportion to 50% over the long run.” At present, about 70% of the pensions’ offshore investments are outsourced to external managers.

“Our funds have developed a very broad investment scope covering various asset classes such as listed infrastructure,” Ms. Liu noted. “However, to further complete the mandate line-up and explore the current global trend, we decide to incorporate an ESG strategy into our portfolio this year,”

Putting ESG into practice

From a portfolio manager’s perspective, Mr. Wong of AllianceBernstein remarked that it is vital that the interests of asset owners and their external managers are aligned.

“There is a shift of the thought process around fiduciary duty, but it’s important that the concept is accepted by both asset owners and asset managers.” He also opined that asset managers should adopt more third-party ratings so as to best put ESG concepts into practice.

Mr. Koch of First State Investments articulated that its institutional clients had been increasingly ESG conscious. “Nowadays, many institutional clients’ request for proposal (RFP) has a dedicated section on sustainability. For example, our client Enbridge, a Canadian infrastructure company, has shifted its investments from being a conventional oil business to renewable energy. Asset managers should also closely monitor changes in the business model of traditional energy companies, or else they might miss good investment opportunities.”

Heman Wong, executive director of the Hospital Authority Provident Fund Scheme (HAPFS), has shifted the stance of Hong Kong’s largest private retirement scheme towards ESG.

“As the largest private pension in Hong Kong, we have more than 20 external asset managers and a dedicated team of people to monitor the outsourcings. However, we are still short of resources to incorporate a fully-fledged ESG mandate; that said, we currently incorporate related guidelines such as not investing in any tobacco entities,” he said.

Mr. H. Wong admitted that asset owners inevitably face peer pressure in the course of deciding whether or not to tap into ESG. Nevertheless, in reality, the HAPFS finds it technically difficult to apply the strategy into practice especially as it is very time consuming to go through all third-party ESG ratings for its existing 7,000 investments.

“Having said that, I still believe that ESG is ideal in terms of achieving long-term investment objectives as long as asset owners can put up with its short-term volatility,” he noted.

Mr. H. Wong suggested that its counterparts with ESG mandates should ensure that their strategy is effectively implemented by best outlining their RFP, investment guidelines and performance reviews.

Ronnie Lim, senior investment specialist at Robeco, opined that it is important for asset owners to define their rationale of incorporating ESG into their portfolios. “However, we’ve seen many asset owners being confused with their incentives. If you don’t get it clarified right from the start, it could lead to disappointment in terms of meeting expectations,” he warned.

The next step for China

Following lunch, the Taipei event proceeded with its second panel of the day, Chinese Capital Markets: Moving into a New Era. Chi Lo, a senior economist covering Greater China for BNP Paribas Investment Partners, observed that the major driving force behind the depreciation of the RMB has gradually shifted from being central bank-dominated to market-orientated.

“The RMB depreciation was predominantly attributed to the valuation effect of the country’s foreign reserves, which led to substantial capital outflow. This, together the country’s foreign investment policy and the repayment of foreign debts for Mainland companies, have put mounting downward pressure on the RMB,” he said.

Jack Chang, chief executive director of Ping An of China Asset Management (Hong Kong), echoed Mr. Lo’s view that Mainland institutional investors such as pensions and insurers only have less than 5% of their strategic asset allocation in offshore markets, and they have a growing desire to diversify their investments abroad.

Despite the underperforming A-share market, Stephen Tong, an investment consultant at Willis Towers Watson, pointed out that some foreign investors have reignited their interest in the Mainland onshore market with the streamlining of the qualified foreign institutional investor (QFII) quota application process.

Investing in a low-yield world

The third panel of the day discussed Investing in a Low Yield Regime, in which Eastspring Investments’ fixed income investment director, David Lai, said he expected the current low-yield environment to persist for the foreseeable future with the continuous monetary easing policies being pursued by central banks.

“There will be a divergence in major central banks’ monetary measures. The US Federal Reserve is on track to normalise its interest policy, whereas the European Central Bank and Bank of Japan remain in the easing mode in a bid to revive their economies,” he noted.

Adeline Tan, head of investment advisory for Hong Kong at Mercer, confided that the persisting low-rate environment puts a dent in the confidence of institutional investors, with significant liabilities to pensions and insurance companies. “As such, we recommend our institutional clients to pursue interest rate hedging especially when their financial status is still healthy.”

She continued: “Pension funds generally allot 60% in equities and 40% in bonds. A decline in interest rates could certainly hurt the returns of their short-term credit. If they do not react quickly [to rebalance their portfolio], the low-rate environment will further undermine their funding ratio.”

Despite the relatively high percentage of government bonds [about 15% in the market] with a negative yield, Sun Hao, managing director and head of institutions for Greater China at AllianceBernstein, claimed that there are still institutional investors with an appetite for these government bonds: “For example, passive managers should have certain positions in the bonds to track underlying benchmarks. Also, many pension funds are obligated to have certain proportions in the credits because of regulatory requirements.”

Emerging market opportunities

The event drew to a conclusion with a panel on Investment Opportunities in Emerging Markets. Alan Ayres, product manager, emerging market equities at Schroders, highlighted that fact that emerging market indexes have consistently underperformed developed market indexes over the past six years.

“Emerging markets, which historically grew very well, were struggling under the low-growth world. However, we have seen signs of improvement this year such as in the MSCI EM index, which has been up 15% year-to-date,” Mr. Ayres pointed out. “Improving corporate earnings in emerging markets and stabilisation of the US dollar are considered to be the main forces driving the recent rally. We expect they would be able to sustain this growth in the long run.”

On China, Ben Yu, fund manager, equity at Manulife Asset Management, stated that the Mainland A-share market underwent a substantial correction this year with RMB depreciation and market volatility, and said international investors are looking to return to the market in 2017 in view of its improving market fundamentals and valuations.