At the “2020 Annual Meeting of the Green Finance Professional Committee of the Chinese Society of Finance and China Green Finance Forum” held in late September, the International Institute of Green Finance of the Central University of Finance and Economics released the “ESG (Environmental, Social and Governance) Rating of Chinese Public Funds”.
In order to comprehensively evaluate the capabilities of fund products for sustainable development, the International Institute of Green Finance has developed the country’s first localised, systematic and universal ESG public fund rating system in order to fill the gap in the ESG rating of public funds in domestic markets.
This indicator system will have many positive impacts on investors and the asset management industry, including guiding more investors to actively participate in responsible investment, enhancing the ability of asset management institutions to control risks, promoting fund companies to redesign their existing products into ESG-value investment, and further deepening the reform of the asset management industry and catalyse the sustainable development of the capital market.
“Carbon neutrality” by 2060 – China
Chinese President Xi Jinping announced at the annual meeting of the United Nations General Assembly on 22 September that China will use stronger climate targets and achieve “carbon neutrality” by 2060.
As the world’s largest emitter of greenhouse gases, how China controls its emissions is critical to the overall slowdown of global warming.
In his speech, Xi Jinping also called on all countries to “promote a ‘green recovery’ of the world economy after the epidemic.” Xi Jinping stated that “mankind can no longer ignore the warnings of nature again and again, and follow the old road that only talked about seeking but not investing, only about development but not protection, and only about utilisation but not restoration”.
Xi Jinping stated that China will reach the peak of greenhouse gas emissions “by 2030”, after which its total emissions will begin to decline.
ESG policies in Hong Kong
ESG Reporting Guide
Wu Jiexuan, Chief Operating Officer of the Listing Division of the Hong Kong Stock Exchange, said that, the focus of the ESG Reporting Guide, which was newly revised by the HKEx in July this year, is the board of directors’ discussion about, participation in and identification of the major risks of ESG.
Under the new regulations, listed companies need to compulsorily disclose ESG-related board statements, including the board’s supervision of ESG matters, ESG management policies and strategies, and how to review the progress of ESG goals.
The goal of this revision is to promote the board of directors to lead the management of ESG and fully perform its responsibilities on ESG matters.
In addition to strengthening the participation of directors, the new regulations also require mandatory disclosure of the “Reporting Principles”, the introduction of new aspects related to climate change under the “environmental” subject, the upgrade of key performance indicators (KPIs) in the “social” subject to “comply or explain” provisions, and the shortening of the timeframe for issuing ESG reports that will improve the transparency of ESG disclosures.
Guidance Letter for IPO
After companies are listed in Hong Kong, they are required to comply with relevant ESG regulations. The Hong Kong Stock Exchange has revised its guidance letter for IPO applicants in July, emphasising that the board of directors of IPO applicants must ensure the establishment of corporate governance and ESG mechanisms during the listing process, in order to meet the requirements of corporate governance and ESG of the HKEx upon the time of listing.
Wu Jiexuan, Chief Operating Officer of the Listing Division of the HKEx, stressed that ESG is not a post-listing matter. Rather, companies must build their ESG mechanisms when filing IPO. Sponsors should also include and consider ESG risks when assisting in IPO.
Once any significant ESG risk may exist, it should be stated in the listing document and prospectus, and the IPO applicant also needs to disclose its ESG risks and how such risks will be controlled during the review.
The HKEx recommends that IPO applicants appoint directors as soon as possible so that they can jointly participate in the establishment of necessary ESG mechanisms and policies.
ESG Reporting Requirements
Regarding the ESG reporting requirements updated by the HKEx in July to further strengthen the governance and role of the board of directors on ESG matters, Xu Weiling, Chief Executive of the Hong Kong Institute of Directors, said that the board of directors are the highest leader of the company and should be fully responsible for corporate governance. Directors need to put ESG issues on the agenda and play a more active role in the management.
In the “Report on Corporate Governance Levels of Listed Companies in Hong Kong”, the Hong Kong Institute of Directors found that the boards of directors in certain companies are highly involved in ESG matters, but many others still have to work harder, which reflects the slow progress or the lack of deep understanding and participation in ESG management in some companies. Hence, more ESG-related education and training should be promoted.
Xu Weiling believes that although the role of the board of directors in ESG issues is becoming increasingly pivotal, listed companies do not need to deliberately introduce ESG professionals as directors. If necessary, external professional consultants can be hired to help solve ESG-related issues.
Xu Weiling further stated that paying attention to ESG issues is equally important for both listed and non-listed companies, as it helps to demonstrate companies’ social contribution and value, and is conducive to their long-term development.
Suggestions for Companies in ESG Reporting
Regarding the further enhancement of the HKEx’s ESG reporting requirements for listed companies, Zheng Wenhan, Director and Risk Advisory Service Executive of BDO Limited, said that a quality ESG report needs to have three-dimensional content. In addition to meeting regulatory requirements, an ESG development strategy for 3 to 5 years should also be formulated at the same time, and how to deal with longer-term ESG risks including climate change should be explained.
Last year, BDO Limited conducted a random sampling of the ESG reports from 500 listed companies, during which it was found that only a very small portion set ESG management goals.
Zheng Wenhan believes that companies can refer to the United Nations’ 17 Sustainable Development Goals (SDGs) in setting up strategic ESG goals, which ensures that their ESG reports are in line with international standards and their practices create positive impacts, thereby drawing more attention from investors.
Under the new ESG regulations, the HKEx encourages listed companies to perform independent assurance of their ESG reports. Zheng Wenhan said that while the third-party certification could enhance stakeholders’ confidence towards the content of the ESG reports, Hong Kong does not yet have a set of industry-recognised certification framework. At this point, different agencies may adopt different certification approaches.
ESG as a Criterion in the Selection of External Fund Manager
Since February, the Hong Kong Monetary Authority (HKMA) has incorporated ESG factors as one of the criteria in the selection, appointment and evaluation of external fund managers.
Liu Huijuan, Chief Risk Officer of the Exchange Fund Investment Office, said that the HKMA has always emphasised that ESG is good for investment returns and risks, and it is hoped that the external fund managers will have the same thought and mindset.
Zhang Jintang, Head of Risk Management and Supervision of the Exchange Fund Investment Office, explained that during the selection process, the external fund manager needs to explain how to integrate ESG into investment decision-making. After being hired, they must report to the HKMA on an annual basis about their work and progress on ESG and sustainable investment.
If the external fund manager’s performance is not satisfactory in the annual comprehensive review, the HKMA will reduce the funds allocated to the fund manager’s investment as a warning, or even terminate the appointment.
Impacts of Climate Change
As climate change will have a significant impact on the way people invest, Keith Wade, chief economist and strategist at Schroder Funds, said that integrating ESG standards into fund analysis will help investors understand the potential of climate change influences.
The results of the analysis show that climate change may increase the productivity of developed markets in cold regions, or may bring attractive investment opportunities.
The most negatively affected countries will be warm countries, concentrated in emerging markets, such as India, Singapore, Australia, etc.
This analysis conveys a clear message that the performance of different regions is likely to vary over the long term, which means that proactive strategic management in response to climate change risks is no longer an option, but a necessary action that needs to be taken urgently.
Climate Change Risk Management
In 2020, the asset management company BlackRock has targeted 244 listed companies located in the U.S., European and Asian markets that have made poor progress in climate change risk management or environmental, social and governance (ESG) disclosure, and will give play to its voting rights, urging the management of those companies to improve.
Amar Gill, head of BlackRock’s Asia Pacific Investment Supervision Team, said that 53 companies have been voted against and the remaining 191 companies have been included in the watch list, which will be given 12-18 months for improvement. If the ESG information disclosure of those companies still fails to make substantive progress within the timeframe, BlackRock will vote against their management to protect and enhance its customers’ investment value.
Climate change issues have been included as part of the business risks of listed companies. Therefore, companies unwilling to disclose ESG information will be deemed to be of higher risks.
In the first half of 2020, a series of ESG version index funds recorded significant capital inflows, reflecting the increasingly higher interests of investors in companies seeking sustainable development.