The emerging markets universe has 26 countries and arguably, environmental, social and governance (ESG) issues matter far more in these regions than in developed markets. There is more room for companies to improve and for investors to influence change, for the good of society and investors themselves. That means greater potential for alpha generation and having a positive impact. Emerging markets rely more on natural resources and have more labour-intensive manufacturing businesses, so there is naturally more opportunity for improvement.
There is a huge spectrum of “quality” – defined in terms of both ESG and investment generally – but I would argue this is greater in emerging markets (EM) than in developed markets. Quality businesses look after the interests of investors, employees and society; they manage capital responsibility and have good corporate governance. Well-run businesses can take market share away from competitors such as state-owned enterprises that aim primarily to provide employment and aren’t as competitive.
Additionally, there are family-run businesses which studies show tend to generally outperform. While they do not always have great corporate governance, often the family’s interests are aligned with investors’ interests in terms of long-term growth and avoiding risk.
Clearly, there is also a long list of bad players. While the situation is improving, loose regulations and unstable policy environments do allow bad practice to continue.
Our data models act as a first screen, allowing fund managers to focus their research with greater intensity. A fund manager may, for example, look at a company that the models indicate as being of lower quality but decide it is improving and that is not being picked up by the models quite yet. There is a great opportunity to generate alpha by engaging with these companies to uncover hidden value. That’s where our most fruitful dialogue happens.
Columbia Threadneedle Investments’ bespoke responsible investment
model has more than 250 million data points. We are also working on a platform to go alongside that with more than three billion data points. The data covers about 90% of the MSCI Emerging Markets Index and tells us if a company is making an impact or not. Even if a company doesn’t publish a data point, you can infer that through machine learning by capturing related data.
For instance, gallons of water used, or hazardous waste emitted. While there is still less data in emerging markets, corporate disclosures are growing quickly in response to pressure from governments and large investors like sovereign wealth funds and pension funds.
Emerging market themes
Turning to renewable energy, countries such as China and India are adopting these technologies on a massive scale. Companies in solar and wind have large numbers of potential consumers. Furthermore, China has poured billions of dollars into support for electric vehicles and leads the industry worldwide.
There are also opportunities in education companies as there is a big appetite for online education services that give children in rural areas more opportunity.
The power of engagement
Engagement is important for sourcing data from companies and helping them to improve ESG practices. We make our views known and help companies to improve performance. Say, for example, you are Coca-Cola and water is a key input. Obviously, reducing water wastage improves your income statement and increases free cash flow. Collaborating with companies helps them to achieve a double win – in terms of both ESG and financial performance.
A lot of policy makers are taking action, setting renewable energy targets as well as introducing stewardship codes. We feel that with the right team and tools there is an opportunity to influence and be at the forefront of change. We believe it is a great time to dive in and invest in emerging markets using an ESG strategy.