Climate Change 2011 Part 6 - Sustainable investing in emerging markets

Steve Triantafilidis

We have been looking at that and started with Asia a couple of years ago, and launched a specific fund. I think it is true that data is an issue, and some of the traditional sources of information available in the developed world are not available in Asia or in emerging markets. This means a lot more effort from analysts to get information from companies, who we found initially were not well equipped to provide answers. But they are starting to at least think about it and starting to develop efforts in that area. So, in integrating ESG, we have had to have the analysts directly look at these companies and look at whatever reporting there is. However, especially in some countries like China, for example, you may not even get normal financial reporting at a high quality. So reporting of data that might be useful in making an assessment and having that corporate sustainability report, for example, is just not there. A lot more involvement is required, which takes time. But I think it will develop there, as it has in other countries.

Elisa Trovato

Asia is a particularly policy-driven market. So does that mean that the key to success is identifying a company which can benefit from government policies? Is that different from the Western World where civil society is demanding and driving forward this process of sustainable development?

Steve Triantafilidis

The problem with emerging markets is that you cannot generalise. The concept of emerging markets has changed a lot in recent times, and I do not think it is possible to compare all of the countries on the same basis. So, there are different levels of government involvement and government direction and different levels of regulations that apply. Some are more advanced than others, and I do not think there is a standard approach to this topic in emerging markets. We have found that we really have to look at it country by country, and company by company within that country.

Joost Bergsma

Asia should offer a sizeable investment universe. In 2010, Asia was the second largest region (after Europe but ahead of North America) in terms of net new investment in new energy, with around $50 billion of new invested capital - - in clean energy. Many leading the solar manufacturers are based in China. A number of the leading Chinese solar manufacturers are listed on the New York Stock Exchange and comply with international disclosure and financial regulations. SoAsia certainly a growing universe of investment opportunities from which private individuals can benefit. Asia is doing its part in hard dollars to comply with clean energy standards.

In my experience, Asian investors would like to invest in their region. So I think this local, Asiandemand for sustainable quality will only grow.

Elisa Trovato

What are the emerging sectors to look at? For example is the sector of electric cars, already very important in China, one to watch?

Joost Bergsma

Clean energy is certainly leading the way. There is a good universe of listed companies in China, but also in Taiwan. Like in Europe, you have, Korean companies doing things quite actively and you have Japanese companies doing things in clean energy.

I would say that the clean energy space, or the electricity space, is certainly a space where I think Asia is doing business.

Steve Triantafilidis

There is also LED (light-emitting diode) which is more advanced in Asia, than it is in a lot of the West. China certainly has a policy on that.

Elisa Trovato

Is it possible to build a fund just based on emerging markets’ sustainable stocks?

Carlos Joly

Natixis has a global fund called Impact Fund—Climate Change, which includes in its thematic approach the mitigation of carbon emissions, adaptation to the inevitable consequences of climate change, and better management of natural resources . Based on the success of this fund, and on the investment potential we find in emerging markets, we are working to launch a similar fund with 100% exposure to emerging markets. We find a sufficiently large number of names to invest in, and in a sufficiently broad spectrum of sectors and countries. Combined with the fact that strong economic growth is occuring in emerging markets, far more than you can expect to happen in mature markets, that provides a very, very compelling investment proposition, because you combine two long-term trends in the world. One is the economic emergence of these markets and the other one is the inevitable consequences of climate change.

It is very interesting to observe that it is not the case that developing countries have closed their eyes to the environmental issues, as is sometimes popularly misconceived. If you look at the national industrial policy of China, you see that they are determined to become a leader in car batteries, and are becoming so. They are determined to become the world leader in wind turbines, and are becoming so. Also, they are determined to become a leader in high speed trains and in mass transit, to the extent that they can compete with the best European high speed train manufacturers. You see that in industry after industry. If you look at the environmental reports of the large trans-national based companies in Asia, Brazil, Argentina and at their Corporate Social Responsibility reports, they are of a not dissimilar quality than those of large trans-nationals from mature markets. So among the large companies, the quality of the reporting has increased dramatically over the last five years and you do not find notable differences amongst the leaders. Where we would like to see more information, of course, is in the mid-cap companies. But that is also a problem in mature markets. There are not many mid-cap companies that provide ESG reports, like the large caps do. In emerging markets you find names that satisfy world-class ESG criteria in forestry and in mining, in transportation and logistics, and in a whole range of state of the art industrial products. From a climate thematic point of view we are able to identify are all the names we need in order to construct a well diversified multi-sector multi-country portfolio.

Elisa Trovato

Matt, is the difference between leaders and laggards in emerging markets greater than in Europe?

Matt Christensen

We did some work with Inrate and one of the things they showed would partly agree with what Carlos said, but would partly disagree with what Carlos said. On the agreement side, at the leadership level, the climate change reporting and climate change initiatives were actually quite similar, in terms of the level of quality - by the way, emerging markets is not just Asia: it is the BRICs and even Eastern and Central Europe. But the average was actually quite a bit different. This is still with regard to climate change, as climate change and governance are the areas that are most being tackled in terms of the ESG discussion. Social has been the last one to come up, for a lot of political reasons that we can think about. So, the question that has to be asked from a perspective of figuring out what to do when making investment decisions – because emerging markets is clearly going to be a huge area for growth with sustainability included – will be: Will these changes – and Carlos alludes to it with regard to mid-caps, for example – come up anyway, and they are probably going to have to come up in the developing world and/or will asset managers have to change the way that they rank, judge and select off different criteria? I do not think we know the answer yet, with regard to absolute versus relativity, when looking at these markets.

Andreas Knoerzer

We launched a fund last year to access the domestic growth of these markets. Our research shows that the leaders are pretty close to our leaders. On average, they are behind but they are progressing faster. And we think that it does make perfect sense to have not just the growth of the emerging markets, but growth in a sustainable way in order to avoid the mistakes of the past in selecting our stocks for the future.

We obviously all know that the data is not perfect, but it is improving. We do not have a different rating or scoring methodology for emerging market companies, because most of these companies are global competitors. They compete with our companies so why should we rate them differently? However, in order to come up with a product which is diversified enough, we are more flexible with our investable universe and will review that in two year’s time. It is very transparent where those companies are positioned in our sustainability matrix. Hopefully, more companies will come to qualify within our stricter investment area. But it was always the intention to have a representative product, and not just a solar and wind offering.

Elisa Trovato

Lars, are high net worth individuals interested in gaining exposure to these growing economies through traditional funds, or are they also looking at sustainability themes?

Lars Kalbreier

They are definitely interested in emerging markets. As to the SRI criteria, it really depends. If you are look at the Asian investors, the time horizon of Asian investors is very, very short-term oriented. They are interested and are open to ideas or trends, but they want performance within six months, or even less than that.

So it needs to be long-term sustainable trend, but in terms of performance, it needs to happen in one month and it is almost impossible to reconcile that. They have more of a trading mentality.

The European client base is much more open in investing in specific trends within emerging markets, also in the sustainability area, because they have more of a long-term approach. In terms of popular themes, water is a very, very important theme. In fact, when you look at the water theme, many engineering companies that have the expertise are in fact European companies or US companies, but they have big exposure to emerging markets. In fact many sustainability issues are affecting emerging markets to perhaps even a greater extent than the developed markets. We all are facing problems with water shortages, but they are most acute in emerging markets. They have much more booming demographics, and a consequent more limited amount of resources, than we have in the developed world, where in fact many countries are experiencing a negative demographic trend.

Elisa Trovato

Are there enough sustainability products available on the market? And are they different from each other, or are they all investing in the same companies?

Lars Kalbreier

Since the universe is fairly limited, especially in the large-cap area, you will find the usual suspects in many funds. Many, many companies are still in the mid-cap arena. They are growing, and so the universe itself is probably not complete yet in emerging markets.

Andreas Knoerzer

I think it is better to look at a theme from a more global perspective. The water theme is applicable to the emerging markets as well as to the developed countries. It would probably not be a good idea to ask for a particular Asian water fund because then you limit yourself. But make sure that the portfolio manager understands what is driving the water theme in emerging markets and which companies are benefiting from that.

Elisa Trovato

How do you reconcile the fact that sustainability themes tend to generate good performance over the longer term but investors are focussed on short to medium term performance?

Viktor Andersson

If you look at it from a company specific perspective, then I do not see that there is a conflict, because many of the companies that are rated highest from a sustainability perspective are the blue-chips of this world. The leading companies from a financial perspective are also the leading companies from a sustainability perspective. In terms of sustainability, I think there is a challenge in assessing the competitive advantage in developed markets. If you look at emerging markets, the picture is different and you add a lot to the analysis and fund performance by adding sustainability.

In essence, best in class for developed markets is irrelevant in many cases, because the absolute difference between the leaders and the laggards is so small; whereas when you apply it to emerging markets you get huge differences. The leaders are also the winners from a financial perspective, although it differs between industries. The main gain is – aside from the resource or operational efficiencies and the softer sustainability factors – that the B2B firms that are well managed from an ESG perspective will get the large contracts from the big European, US and Japanese companies.