On 16 December 2019, Hong Kong's Securities and Futures Commission (SFC) issued the results (the "Results") of its Survey on Integrating Environmental, Social and Governance (ESG) Factors and Climate Risks in Asset Management (the "Survey"). The SFC conducted the Survey, part of a comprehensive plan to develop various ESG-related initiatives, from March to September 2019 in order to better understand the relevant perspectives and practices of asset managers and the expectations of their asset-owner clients. Respondents included 794 firms active in asset management and 14 asset owners (such as sovereign wealth funds, family offices, financial institutions, pension funds and trusts). 

For asset managers looking to enhance their own ESG processes, the Results provide a useful snapshot of existing ESG practices in the asset management industry and the trends that may shape the future. The Results also illustrate practical examples of some ways that asset managers are currently integrating ESG into their investment processes, which firms may look to emulate. Critically, the Results reveal several gaps between the expectations of asset owners and the ways that asset managers are responding (or not), which shrewd asset managers may take into consideration when developing business in this increasingly competitive landscape.

State of Play and Future Trends

Of the 794 active asset managers surveyed, 660, or 83%, consider at least one environmental, social or governance factor in their investment processes. Of these 660 firms, 63% take a further, more active approach through "responsible ownership", or the exercise of their rights as shareholders by voting or corporate engagement to influence corporate ESG management. However, only 35% of the firms that consider at least one ESG factor have implemented a consistent, systematic approach to integrating ESG factors into their investment and risk management processes.

Moving forward, 64% of the active asset managers surveyed plan to develop or enhance their ESG practices in the next two years, regardless of whether they currently consider ESG factors or not. Many are also considering the disclosure of more information about their ESG investment practices and how they manage climate risks. In light of these and other findings, the SFC intends to set expectations for asset managers in areas ranging from investment management to disclosure, provide ESG best practices for asset managers, and establish an industry group focused on environmental and climate risks. 

Examples of Integration

As market participants and regulators around the world, including the SFC, adapt to the rapidly changing ESG landscape, asset managers cannot remain static. Thankfully, the Results include a number of examples of ESG governance and oversight measures, as well as ESG investment strategies, that asset managers can consider adopting today. 

At a governance level, asset managers may consider implementing clearly defined roles and responsibilities including escalation and communication channels, as well as identifying specific board members to oversee ESG investments, risk assessment and management of climate risks. Firms may also implement board-approved ESG policies, which would typically cover, among other things:

  • A list of specific ESG factors considered;
  • A defined approach to integrating ESG investment selection, management and monitoring;
  • A defined approach to assessing and managing ESG risks and opportunities; 
  • Disclosure of ESG investment activities and performance; 
  • Active ownership and corporate engagement approaches and procedures;
  • A defined process to understand clients' ESG preferences and related investment strategies; and
  • Effective controls to ensure adherence to ESG policies, including escalation and resolution of issues.

For asset managers looking to incorporate ESG investment considerations as part of their investment management processes, the Results provide examples of how they may go about doing so, including:1

Negative or Exclusionary Screening
  • Exclusion from a fund or portfolio of certain sectors, companies or projects based on specific ESG criteria
Corporate Engagement and Shareholder Action
  • Use of shareholder power to influence corporate behaviour, including through communicating with senior management of companies, filing shareholder proposals, etc.
ESG Integration
  • Systematic and explicit inclusion of ESG factors into financial analysis
Norms-based Screening
  • Screening of investments against minimum standards of business practices based on international norms
Positive / "Best-in-Class" Screening
  • Investments in sectors, companies or projects selected for positive ESG performance relative to industry peers
ESG-themed or Thematic Investing
  • Investments in themes or assets specifically related to ESG (e.g., clean energy, green technology or sustainable agriculture
Impact or Community Investing
  • Targeted investments aimed at solving environmental or social problems, and including community investing where capital is specifically directed to traditionally underserved communities or individuals

Areas of Improvement for Asset Managers

Critically, the Results provide insight into the expectations of asset owners and how asset managers may already be falling short of meeting them:

Key Gaps Possible Solutions
A majority of the asset owners surveyed indicated that asset managers do not engage with them to understand their ESG investment preferences. Notably, discussion of climate risks is almost non-existent in client engagement and suitability assessment.

Asset managers can proactively engage with their clients to develop ESG practices and processes that cater to clients' own ESG-related needs and concerns, particularly with respect to climate risks.

The majority of asset owners expect asset managers to identify, assess and manage climate risks. However, only 23% of the 660 asset managers that consider ESG factors have processes in place to manage the financial impact of physical and transitional climate risks.

Asset managers can integrate any number of climate-related risks into their investment and risk management processes. The Financial Stability Board's Final Report: Recommendations of the Task Force on Climate-related Financial Disclosures (June 2017) sets out a vast array of transitional and physical climate risks, as well as corresponding potential financial impacts, that may serve as a useful guide.

All of the asset owners surveyed agreed that, for the purposes of reducing greenwashing and identifying asset management firms with stronger ESG practices, more disclosure following a prescribed framework is needed from asset managers.

Asset managers can provide more detailed disclosures on outcomes and evidence of ESG impact to their clients. Asset owners expressed a preference for consistency between ESG policies and practices, the rationale behind investment decisions, and the results of corporate engagement and voting track records. 

The Way Ahead

The Results follow a circular issued by the SFC in April 2019 which provides guidance on disclosure to authorised green funds. The SFC is continuing to work to implement a central database of green funds by the end of 2019, and has also been working closely with the Stock Exchange of Hong Kong Limited to strengthen ESG disclosure rules for listed companies. Building on its past ESG-related work and going forward, the SFC intends to focus on promoting the management of climate change risks in asset management by developing relevant standards and providing practical guidance and best practices. The SFC will also establish an industry group to exchange views with experts in environmental and climate risks, as well as sustainable finance.

The SFC's efforts underline the growing trend by regulatory authorities in Asia to provide encouragement and guidance on ESG matters and sustainable finance. In November 2019, the State Bank of Vietnam issued a directive to all Vietnamese banks requiring them to (i) include ESG risk assessments in credit risk analysis, and (ii) establish dedicated ESG analysis units by 2025. In the same month, the Monetary Authority of Singapore (MAS) announced the establishment of a US$2 billion green investment programme which will invest in funds that can demonstrate the incorporation of ESG considerations in their investment process. The investment programme is one part of MAS' two-pronged approach to encourage sustainable finance in Singapore, the other part being the development of environmental risk management and disclosures guidelines for the banking, insurance and asset management sectors.

Clearly, asset managers can only benefit from understanding the Results, and monitoring future updates from the SFC and other regulators, as the ESG landscape continues to develop. 

To learn more about the evolving ESG landscape across the Asia-Pacific region and how asset managers can respond, we invite you to read our comprehensive article, "Private Equity for the Public Interest: The Evolution of ESG in Asia and Considerations for Asset Managers and Investors". 

1 SFC Survey on Integrating Environmental, Social and Governance Factors and Climate Risks in Asset Management (16 December 2019).