Investment in the capital market has evolved into a theme that is not only looking into the financial return but also positive environmental and societal impacts from the investment. There is a growing awareness that the effects of environmental damages and socio-economic instability will eventually trickle down to all businesses and economies. Based on the studies published by Greenpeace Southeast Asia and the Centre for Research on Energy and Clean Air, air pollution has cost $2.9 trillion to the global economy, equivalent to 3.3% of the world’s GDP1. Within Malaysia’s context, Greenpeace in its report, Toxic Air: The Price of Fossil Fuels stated that fossil fuel-related air pollution is estimated to cost Malaysia around USD 2.8 – 6.7 billion2.
The capital market is instrumental in addressing these issues by allocating the capital in the financial market towards environmental and societal causes. This is where the Environmental, Social, and Governance (ESG) or Sustainable Responsible Investment (SRI) come into play.
What is Environmental, Social and Governance (ESG) and Sustainable Responsible Investment (SRI)?
ESG and SRI are used interchangeably and defined differently by different organizations. Yet, both are still referring to investment that considers the environmental, social, and governance issues. Nonetheless, there is a subtle difference between these two terms.
Environmental, Social, and Governance (ESG) is a broader framework that outlines ESG factors taken into investment consideration. For example, when factoring ESG into investment decision-making, investors will look into how these ESG factors will impact the company’s profit.
Sustainable Responsible Investment (SRI) is an investment philosophy that only invests in SRI-related products, and these investments typically attribute to the ESG factors. For example, under SRI, investors invest in bonds which proceeds from the issuances are used to build a clean energy ecosystem or to support initiatives in lifting poverty.
What drives the growth of ESG and SRI Investment?
Total ESG assets in the Asia region amounted to $25.4bn at the end of 2020, fueled by inflows of $7.9bn, up from only $810m in 2019, based on the latest Morningstar Global Sustainable Fund Flows report4. According to Bloomberg Intelligence, Global ESG assets are on track to exceed $53 trillion by 2025, representing more than a third of the $140.5 trillion in projected total assets under management5.
The growth of ESG and SRI Investment is driven by several factors including strong demand from institutional investors, a positive relationship between ESG scores and financial returns, and developments of ESG and SRI initiatives and regulatory frameworks.
Demand from institutional investors and asset management firms
There has been a demand from institutional investors for ESG-compliant assets and Sustainable Responsible Investing. In the fifth EY Climate Change and Sustainability Services Survey of 298 institutional investors globally, it reported that climate change, in particular, plays a significant part in investors’ decision-making process, with 73% responding that they will devote considerable time and attention to evaluating the physical risk implications of climate change when they make asset allocation and selection decisions6.
There are institutional investors and asset management firms in Malaysia who express their commitments to responsible investing. This includes signing up for the UN Principles for Responsible Investment (UN PRI), an international organization that works to promote the incorporation of environmental, social, and corporate governance factors (ESG) into investment decision-making. As of December 2019, there are 10 local institutional investors and asset managers become signatories of UN PRI which include Khazanah, Kumpulan Wang Persaraan (KWAP), Employees Provident Fund (EPF), and others.
Positive relationship between ESG scores and financial returns
Many studies are corroborating the positive relationship between ESG scores and financial returns. A study in 2017 done by Nordea Equity Research reported that from 2012 to 2015, the companies with the highest ESG ratings outperformed the lowest-rated firms by as much as 40%. In 2018, Bank of America Merrill Lynch found that firms with a better ESG record than their peers produced higher three-year returns, were more likely to become high-quality stocks, were less likely to have large price declines, and were less likely to go bankrupt7.
Companies with high ESG scores also perform better in the long run and more resilient during the market downturn compared to their peers with low ESG scores. The MSCI Emerging Markets (EM) ESG Leaders Index, an index that provides exposure to companies with high Environmental, Social, and Governance (ESG) has consistently outperformed its peers in the MSCI Emerging Markets Index from 2007 to 2021. In 2020, the annual performance of the MSCI EM ESG Leaders Index was at 20.46% compared to MSCI Emerging Markets at 18.69%.
Sustainable and Responsible Investment Center
The Sustainable and Responsible Investment Centers is an initiative by the Securities Commission Malaysia and BIX Malaysia to provide comprehensive information on SRI/ESG bond and sukuk issued in Malaysia.
Developments of ESG and SRI initiatives and regulatory frameworks
In many capital markets, there are some initiatives and frameworks launched to push the ESG agenda and drive Sustainable Responsible Investing (SRI).
For example, in 2020, Korea exchange set up an ESG team with some of their tasks are to provide investors with information on the sustainability and social impact of listed firms in the country. In Singapore, the Monetary Authority of Singapore (MAS)’ Sustainable Bond Grant Scheme is opened to first-time and repeat issuers to encourage the issuance of green, social, and sustainability bonds9.
Within the Malaysian capital market itself, the Securities Commission Malaysia (SC) started SRI initiatives in 2014 with the issuance of Sustainable and Responsible Investment (SRI) Sukuk Framework to facilitate the financing of sustainable and responsible investment initiatives. Most recently, the SRI Sukuk and Bond Grant Scheme was launched to fund issuers and encourage them to issue more SRI-related issuances under SRI Sukuk Framework or the ASEAN Green, Social and Sustainability Bond Standards.
Investors can access to details information on SRI bonds and sukuk as well as keep updated with the announcements such as rating changes, coupon payment, notice of redemptions, and others.
For more information about the SRI bond and sukuk issued in Malaysia, investors may visit https://www.bixmalaysia.com/Learning-Center/Sustainable-Responsible-Investment-Center.
- World Economic Forum (February 2020). This is the global economic cost of air pollution. Retrieved from https://www.weforum.org/agenda/2020/02/the-economic-burden-of-air-pollution
- Greenpeace Southeast Asia (February 2020). Toxic Air: The Price of Fossil Fuels. Retrieved from https://storage.googleapis.com/planet4-southeastasia-stateless/2020/02/da1c8e5c-toxic-air-report-110220.pdf
- Morningstar (August 2020). 4 Easy Steps to Finding a Suitable ESG Fund. Retrieved from https://www.morningstar.com/articles/997978/4-easy-steps-to-finding-a-suitable-esg-fund
- Fund Selector Asia (February 21). Asia ESG funds attract record flows. Retrieved from https://fundselectorasia.com/asia-esg-funds-attract-record-flows/
- Bloomberg Professional Services (February 2021). ESG assets may hit $53 trillion by 2025, a third of global AUM. Retrieved from https://www.bloomberg.com/professional/blog/esg-assets-may-hit-53-trillion-by-2025-a-third-of-global-aum/
- EY (August 2020). ESG disclosures take center stage as investors raise stakes to assess company performance. Retrieved from https://www.ey.com/en_my/news/2020/08/esg-disclosures-take-center-stage-as-investors-raise-stakes-to-assess-company-performance
- G. Eccles, Robert, and Svetlana Klimenko. “Shareholders Are Getting Serious About Sustainability.” Harvard Business Review, November 24, 2020. Retrieved from https://hbr.org/2019/05/the-investor-revolution.
- MSCI (March 2021). MSCI Emerging Markets ESG Leaders Index (USD). Retrieved from https://www.msci.com/documents/10199/c341baf6-e515-4015-af5e-c1d864cae53e
- PwC. Environmental, social and governance (ESG) in Asia. Retrieved from https://www.pwc.com/sg/en/asset-management/assets/environmental-social-and governance-in-asia-awm.pdf
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