Asset owners divided on ESG approaches

Malaysian institutional investors are increasingly embracing environmental, social and governance (ESG) principles, but there are stark differences in the way they implement them and judge the benefits.

While asset owners are divided over the extent to which ESG screening might impact performance by excluding certain sectors, others believe a better approach is to encourage companies in "environmentally unfriendly" industries to adopt more sustainable business practices.

These were some of the key views that came through from a panel discussion last week at AsianInvestor's Malaysia Global Investment Forum in Kuala Lumpur.

Esther Ong, chief investment officer at Prudential Malaysia, acknowledged the importance of ESG, but voiced concerns that strict adherence to such principles could lead to lower returns.

“If you are very strict in implementing ESG principles in the investment process, you will likely have to avoid sectors such as timber, plantations and oil and gas,” she said.

Malaysia is the second-largest producer of palm oil in the world, accounting for about 39% of world production. It is also one of the world’s top exporters of timber and timber products and ranks among the top-five crude oil producers in Asia.

All of these global industries have come under fire for being environmentally unfriendly and/or contributing to climate change. And some large institutional investors such as Norway’s sovereign world fund – the world's biggest and itself, ironically, funded by oil revenues – is thinking about divesting altogether from the global oil and gas industry.

Ong, however, believes a better way of using the ESG lens is to look at what companies are doing to give back to society or how they are contributing towards cutting the carbon emissions impact of their activities, she said.

While it is good to keep ESG principles in mind while investing, “the challenge is to be fully ESG-compliant”, she told delegates during the panel discussion, adding that she saw more opportunities for ESG-related investment opportunities in developed markets compared with Malaysia.

Rohit Nambiar, chief executive of Axa Affin Life Insurance, put forward a different point of view. Citing internal research, he said there was little difference in returns from “polluting” and “non-polluting” industries, so using an ESG filter before investing did not punish investors.

"We have given a lot of importance to ESG,” he said, adding that France-headquartered parent Axa had decided to stop investing in tobacco a few years ago as it seemed odd for a health insurer to be investing in this industry.

“It is a drastic strategy and it is tough for my investment allocation team but that is the strategy [we have chosen],” he said.

NON-EXCLUSIONARY APPROACH

Malaysia’s biggest pension fund, the $200 billion Employees Provident Fund, is another strong believer in ESG but has a different approach.

“We have been actively engaging with private limited companies [PLCs] to improve their corporate governance. We have also gone public with some of our conflicts with some PLCs [on this issue],” chief executive Shahril Ridza Ridzuan said, speaking on the same panel.

That said, because EPF operates in a developing market, he believes the adoption of ESG principles must also keep in mind other imperatives.

“We believe there should be emphasis on both the environment and economic development,” he said, so ESG policies that exclude industries entirely are not necessarily the right way to go.

Instead of excluding the palm oil industry because it is deemed environmentally unfriendly, Ridzuan said the pension fund is focused on encouraging companies in that sector to sign up for more sustainable practices, such as those prescribed by the Roundtable on Sustainable Palm Oil.

We don’t believe in cutting out non-environmental[ly friendly] industries,” he added, noting how the Malaysian market is limited in terms of the number of companies with enough scale to be considered investible by large investors.

“There are lots of issues regarding the palm oil industry, but if we start excluding such industries, there won’t be many companies left to invest in,” he said.

According to the 2016 Global Sustainable Investment Review, $52.1 billion in assets were managed in Asia using one or more sustainable investment strategies by the end of 2016. When sharia-compliant (Islamic banking-compliant) funds are excluded, the total sustainable investment assets total $34.2 billion.

The fastest-growing ESG strategies in Asia ex-Japan from 2014 to 2016 were sustainability-themed investments, which expanded by 198% to $6.3 billion, and negative/exclusionary screening, which grew by 14% to $24.5 billion, the report said.