Insight

How ESG is evolving in China’s booming asset management space

China Forest

Supported by rising investor demand, alongside government backing, ESG investing is gathering momentum in China. Indeed, China’s nascent ESG fund industry more than tripled in 2020, hitting US$26.4 billion at year-end, according to Broadridge’s latest quarterly China Navigator report.

The report also states that mutual fund managers are expected to continue their ESG product development around ETFs, quant and fixed income strategies to meet rising ESG demand across retail, HNWI and institutional client segments. Among organisation structures, Sino-foreign JV firms are dominating the Chinese ESG landscape – leveraging their foreign partner’s global ESG expertise. They currently take up 9 of the top 10 spots and collectively account for 61% of total ESG fund assets at the close of 2020.

Top trends in China’s exciting ESG investing landscape

With surging interest in ESG investing triggered by the COVID-19 pandemic, in addition to the developing sustainability agenda emerging alongside COP26, it’s an exciting time for ESG investing. Against this backdrop, the SynTao Green Finance (STGF) and China Social Investment published an ESG trends report, which provides key institutional observations on the current developments in China’s ESG investment space.

I recently attended the Sustainability & ESG Business Summit 2021, organised by the British Chamber of Commerce in Shanghai (BritCham Shanghai). While there, I served as a panellist in the session ‘Enabling ESG investment through common principles and alignment’. Reflecting on the event, I wanted to explore three of the key trends referenced in the report.

Trend 1: Various ESG products in the pipeline amid fast-growing interest in green funds

Over 2019-20, ESG wealth management products offered by commercial banks in China (and their wealth management subsidiaries) increased from zero to over 40.

This is a trend that’s set to rise. Asset management firms are expected to launch more ESG funds, across active funds, index funds, Smart Beta funds and bond funds. Securities firms are also predicted to embrace ESG and develop more products such as ESG trusts and REITs. With the current market being at the ‘blooming’ stage of growth, we can also expect to see a variety of different ESG products being offered to different types of investors, including retail and institutional investors.

Trend 2: Domestic Asset Owners (AOs) steadily adopt ESG principles

In China, two pioneering Chinese AOs, Ping An Insurance and Wu Capital, became signatories of the  Principles for Responsible Investment (PRI). In addition, China Investment Corporation (CIC), the sovereign fund, has launched its ESG investment policy.

Following in their footsteps, it is expected that AOs such as insurance asset management firms and family offices, will begin to adopt ESG more proactively. Interestingly, Chinese AOs are choosing to adopt European and U.S. AO practices on that basis that an ESG investment approach boosts returns, alongside reducing environmental risk.

Trend 3: More disclosures to enable and drive optimum use of ESG data

In June 2021, we welcomed the long-awaited ESG disclosure standards. These are hoped to drive much-needed improvements in the quantity and quality of ESG data.

These standards will seek to build on the progress already made in 2020, as Chinese firms began to understand the importance of improving their ESG data standards. This includes the Shenzhen Stock Exchange’s ESG information disclosure evaluation. The Shanghai Stock Exchange also set out an initiative encouraging STAR market companies to voluntarily disclose ESG data.

I believe that soon this trend will start to expand from the secondary market to the primary market, as regulators study the offshore regulatory trends and implications of requiring the primary market to make ESG disclosures.

How is China’s ESG journey different from other key markets?

As the world’s second-largest economy, China’s growth must be considered when looking to change current practice. There are marked differences between China’s ESG disclosure practices and the ESG frameworks currently being embraced by Europe and North America. Managing rapid growth alongside demand for an ESG trajectory is a delicate balancing act, and China’s policymakers must approach ESG in a way that best suits the country’s unique development trajectory and social and environmental circumstances.

At the same time, formulating a standardised approach to sustainability reporting and metrics is a key objective for a number of global policy and standard setters. How this plays outwill be followed closely by Chinese regulators, as they seek to implement ESG disclosure standards.

For example, in terms of ranking ESG factors, the environment has been a key focus for China’s policymakers, given that China’s 40-year economic transformation has not been without environmental impact.  Hence, the government has placed significant emphasis on developing new environmental protections relative to agriculture, land degradation, and public health.

ESG investing in China: Aligning with global interests, with emphasis on outperformance

Environmental protection is a key feature of China’s recent five-year plan (2021-2025).  In the wake of last October’s carbon neutrality commitment, the government has also started to focus on climate change more broadly, aligning the environmental agenda more closely with global interests.

However, while ESG growth in Europe and the US is driven by a combination of regulatory developments, investor awareness and a desire to ‘do the right thing’, outperformance is still the key motivation in China. This can be a positive, as it is often achieved by investing in leading companies in new, fast-growing industries, which also tend to have higher ESG scores.

Accordingly, global managers seeking to make a sustainable impact in one of the world’s fastest growing economies must define their own playbook for success and adopt flexible approaches suited to the local market.  Ultimately, their path ahead can lie either in leveraging global investments and ESG expertise in a Chinese context, or by finding the right local partners for a lasting collaboration with impact.