Emerging markets – ESG Feature


pollution. So, there are pronounced social benefits from reduc- ing carbon emissions,” he adds.


It is not just about the social benefits; it could lead to workers being moved into alternative roles. Nietsch uses the changing demand for natural resources as an example of how mass unemployment could be avoided while the world transitions to a low carbon economy. “A low carbon scenario has a higher demand for materials such as steel and copper. There could be a reduction in mining of thermal coal, but those jobs could potentially be repurposed to other parts of the mining sector,” he says.


Are you local? Madeleine King, head of research and engagement at Legal & General Investment Management (LGIM), acknowledges that there are challenges when investing in emerging markets, such as difficulties with data and having to consider the sover- eign element when assessing corporates. But these challenges are not insurmountable.


“Emerging markets and ESG can be compatible,” she says, adding that much of ESG analysis is based on basic data points, including assessing what a company does and if it is meeting sustainability standards. “For any bond we invest in, whether it is an emerging market corporate or a developed market blue chip, we want good infor- mation about the company’s operations and where its reve- nues come from,” she adds.


King says emerging market corporates are open to discussions around improving their operations. “It is a widespread conver- sation now. We are no longer a lone voice knocking on the door asking to talk about climate change.


“They are willing to have these conversations in a way they were not five years ago. The big emerging market issuers understand that the rules have changed with investors looking for more than they once did.”


The issue is their ability to act on those discussions is difficult in certain countries. “They are not able to deliver on everything we want, but the tone has changed,” she adds. It appears that emerging market governments have worked on im- proving their dialogue with investors to build a vibrant market. “Communication has developed over the past 10 years,” Shep- herd says. “A lot of that is down to governments issuing more local debt. They have upped their game to develop a domestic funding market that is credible and also less volatile. “Dollar liquidity is a worsening picture, so you want to create a demand for local debt,” he adds.


Being realistic


The ESG development of emerging markets is a big part of the world’s net-zero ambitions. They have to decarbonise for the


world to make a huge dent in climate pollution. Yet investors need to be realistic on what they can achieve. “You cannot set the same standards in emerging markets as you do in the developed world with respect to climate change,” King says. “You have to be realistic in that it takes longer. “While developed markets have had the benefit of industrialisa- tion, many emerging markets are only just getting to that point,” she adds. “We cannot expect emerging market countries to decar- bonise at the same rate as those in developed markets.” LGIM wants its developed world portfolio companies to phase out coal by 2030, but emerging market companies have more time. “We cannot apply the same standards to a Dutch electricity company as we would to an Indian electric- ity company. They are in different stages of their life cycle,” King says. “With ESG, no one has the right answer,” Patnaik says. “A cli- ent sitting in Germany’s view of ESG will be different from that of a client sitting in Saudi Arabia.”


Being at different stages of their lifecycle might be why corpo- rate data in emerging markets is less mature than that released in the developed world.


“Investment decisions in emerging markets can often be more complex because of a lack of robust information to base deci- sions on,” Shepherd says. Patnaik says that the issue with transparency is not always down to companies not wanting to release data, but in lacking the systems to do it. “Sometimes these corporates have grown so quickly because their economy has grown quickly, so the quality of their information has to catch up.” He adds that considering ESG factors is important to invest successfully in emerging markets. It is about assessing the owner of the company, determining if the directors are inde- pendent and ascertaining if the company changes auditors reg- ularly. “These have always been issues and what ESG has done is put a framework around it,” he adds.


The long game


“Emerging markets are emerging for a reason,” Shepherd says. “Something has not gone right or there is an institutional weakness.”


This could mean that some changes will take longer to imple- ment than others and investors may need to be patient. “The results will not be immediate for something that is improving people’s lives,” Shepherd says. “If there is a need for improved sanitation, it will have a big impact on people, but the results will come through in 10 years’ time.


“That shows me that they are committed to improving lives,” he adds. “It is the same with education, where positive results will not be evident for 10 to 15 years. They are not after quick wins and are serious about fixing these problems.”


Issue 114 | June 2022 | portfolio institutional | 37


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