Forbes: What’s The Value Where ESG Meets Emerging Markets?
Home to a diversified mix of sectors, Emerging Markets are now better supported by robust service sectors and a rapidly growing middle class.
Liz Su is a member of the Emerging Markets Portfolio Construction team. She joined Boston Common Asset Management (BCAM) in 2014, bringing investment experience spanning Emerging Markets (EM) equities, Global Developed Markets and quantitative research.
Most recently, Su served as a portfolio manager with Batterymarch Financial Management on the Emerging Market Equities team and had prior experience with Standish Mellon Asset Management and an economics consulting firm.
Su earned a BA in international finance from Wuhan University in China, a master’s degree in economics from Tufts University and an MBA from the MIT Sloan School of Management. She is a CFA charter holder and a member of the Boston Security Analyst Society.
Christopher P. Skroupa: What is significant about the value of ESG (environmental, social and governance) practices that would convince investors that now it is the time to incorporate ESG in Emerging Markets investing?
Liz Su: Emerging Markets are not what they were 20 years ago, when they were solely dependent upon commodities and exports. Today, it is widely recognized that EM have become a major driver of the global economy, growing twice as fast as the developed countries. Home to a diversified mix of sectors, EM are now better supported by robust service sectors and a rapidly growing middle class. As the foundation of EM growth is changing, ESG issues are receiving greater attentions from consumers, corporations and regulators across the emerging markets.
In our view, ESG analysis provides investors with a set of information that are uncorrelated with traditional financial metrics; they lend additional insights into a company’s management quality, strategic positioning, operational efficiency and potential risk exposures. This is particularly relevant in EM, as the asset class is less efficient relative to the developed markets. Going forward, we think investors who fully integrate ESG into their investment processes in EM could stand to benefit disproportionately relative to those who do not.
Skroupa: As disclosure of ESG data improves in Emerging Markets, how should investors consider incorporating ESG into their investment process?
Su: Data quality and disclosure practices in EM have substantially improved over the past several years, but they are still evolving. We believe that seeing the whole picture is fundamental to valuing a company, and as a result, we integrate rigorous, bottom-up financial and ESG research at every step of our investment process, which enables us to focus on the ESG issues that are material to the core business.
Unlike a passive approach, we believe ESG data needs to be understood in its business and cultural context. We are active shareholders and actively engage with companies on material ESG issues in a wide range of areas. The additional information gathered from engagement and voting activities serves to complete the feedback loop and enhance our investment decision-making.
Skroupa: From your recently published article “Re-paving the BRICS*:ESG & End-Market Growth in Emerging Markets,” there is a promising, albeit intricate, future for ESG investing in Emerging Markets. You argued that incorporating ESG not only help mitigate risks but also offer additional alpha potentials. Where do you foresee alpha opportunities progressing for Emerging Markets in the next three to five years?
Su: In today’s EM investing, the contribution of ESG research has expanded beyond traditional risk mitigation to an engine of identifying compelling investment opportunities. The most dynamic growth areas in today’s EM happen to be in sectors where ESG can build competitive advantages.
For example, strong human capital management can be a key differentiator in sectors such as financials and software, where talent retention and employee motivation can lead to lower operational costs and higher return on capital. Bank Rakyat, an Indonesian bank with a strong microfinance model, lends to the same community where it raises deposits, provides mentoring to women and small business in the community, and has an impressive recruiting and talent-training program. As a result, it is one of the most profitable banks globally.
EM economies are gaining strength against a backdrop of climate change, resources pressure, and new technological opportunities. The ESG lens can help spot companies that provide innovative solutions to sustainability challenges. For example, environmental degradation and air pollution in China have resulted in enormous social pressure. This is helping to create exciting opportunities to invest in companies leading the charge in providing drinking water and clean energy to the expanding middle class. Beijing Enterprises Water, China’s largest wastewater treatment company, is capitalizing on China’s widespread water pollution. Meanwhile ENN Energy, China’s third largest natural gas distributor, is well-placed to benefit as the country shifts away from coal and gas consumption is growing at double-digits.
Strong corporate governance also tends to go hand-in-hand with better financial performance. Managements that pay attention to ESG issues also tend to be forward-thinking and focused on the long term. For investors, applying an ESG lens to both products and processes can help unlock attractive opportunities that can benefit from the end-market growth in Emerging Markets in the next decade.
Skroupa: Boston Common has a long history in investing and engaging in Emerging Markets since the 1990s, when ESG data was very limited. What do you see as key drivers for the expansion of impact investing in EM? What role does an institutional investor, like Boston Common, play in this expansion?
Su: From the outset, our engagement efforts in Emerging Markets have been focused on improving data disclosure and raising awareness with local investors to regulators. From 2009-2012 we co-Chaired the Emerging Markets Disclosure Project (EMDP), an initiative that brought together local and global investors and research providers to improve ESG disclosure in key EM countries.
We have regular dialogues with individual EM companies through our own active engagement and in collaboration with local partners. While global institutional investors naturally carry the most weight in active engagement with EM companies, we are also seeing signs in places such as India and South Korea that local shareholder activism is ramping up. Stock exchanges and regulators in EM are also taking action to protect minority shareholder rights, to require better ESG disclosure, and to increase the adoption of Stewardship codes and proxy voting disclosure by mutual funds.
Looking ahead, strong corporate governance and sustainability practices are prerequisites for EM companies to compete globally. A deep understanding of ESG issues and active voices from impact investors can help identify companies that are best placed to participate in the promise of emerging markets.
Christopher P. Skroupa is the founder and CEO of Skytop Strategies, a global organizer of conferences.
The information in this article should not be considered a recommendation to buy or sell any security.