ESG Insights (Jan 2024): Customised Solutions: The Key to Achieving ESG Goals for Asset Owners

Customised Solutions: The Key to Achieving ESG Goals for Asset Owners

GROWING DEMAND ON ESG INVESTMENTS FROM ASSET OWNERS

As environmental, social and governance (ESG) factors emerge as top considerations for investors, financial institutions are increasingly seeking ways to integrate these considerations into their investment strategies to enhance their risk-adjusted return and, in some instances, to create positive environmental and social impact.

Among major financial institutions, asset owners, such as sovereign wealth funds, insurance companies, pension funds, and family offices, are entities that own and manage significant pools of capital.?Asset owners usually invest in a wide range of assets to meet their different investment objectives such as generating return to pay out retirement benefits for pensions and growing their clients’ wealth over the long-term for family offices.?

Given their significant share of the global assets under management, asset owners are likely subject to various regulations and oversight to ensure that they act in the best interest of their stakeholders and the broader economy.?They play a critical role in the global financial system and have the potential to influence the direction of certain industries and economies.? ESG investments align with the long investment horizon of asset owners which is closely linked to responsible and sustainable investing practices.? Exhibit 2 summarises the factors driving the demand for ESG investing for asset owners.?

HANG SENG INDEXES COMPANY’s ESG INDEXES SERVICE

Traditional passive investing, typically achieved through market capitalisation-weighted indexes, may not align with an asset owner's climate and ESG objectives. These indexes are often biased towards companies with larger market capitalisations, which can lead to overweighting in sectors that are not aligned with an asset owner's objectives. Additionally, market capitalisation-weighted indexes may not capture the full spectrum of ESG risks and opportunities.?As such, the Hang Seng Indexes Company introduced the Hang Seng Corporate Sustainability Index Series in 2010.? For over a decade, the Hang Seng Indexes Company has been a pioneer in developing ESG indexes for the mainland and Hong Kong stock markets.? ESG equity indexes play a crucial role in helping asset owners to incorporate ESG elements into their investment process (Exhibit 3). These indexes can assist asset owners in setting a strategic asset allocation, defining their reference portfolio, measuring performance, and determining the eligible universe of investable securities for both the total portfolio and individual allocations. Additionally, ESG equity indexes can facilitate communication with stakeholders about ESG objectives, policies, and performance. Asset owners can use these indexes to report on their ESG exposure, risk, and impact. ESG equity indexes can also serve as a basis for passive investment strategies and active strategies that aim to outperform by selecting, weighting, or excluding companies based on ESG factors.

Customisation of ESG equity indexes is essential in addressing the diverse investment needs of asset owners, including their risk appetite, return expectations, time horizon, values, and preferences. Asset owners can design their ESG equity indexes by selecting different levels of ESG integration, applying various filters or screens, or choosing specific themes or sectors. Each approach can be executed in a manner that meets the unique needs of an asset owner. For example, some asset owners may prefer to exclude companies that generate a certain percentage of their revenue from the oil and gas industry, while others may exclude only oil and gas companies with poor ESG ratings.

Risk appetite, return expectations, and time horizon also vary among asset owners. Some may seek to enhance their portfolio’s ESG profile while maintaining a similar risk and return profile to the benchmark portfolio. In contrast, others may be willing to pursue ESG impact at the expense of higher tracking error. To safeguard their reputation and credibility, asset owners must ensure that their ESG investments comply with market standards and regulations such as the Climate Benchmarks Regulation which sets out minimum standards for EU Climate Transition Benchmarks and EU Paris-aligned Benchmarks that reflect the objectives of the Paris Agreement.

DESIGN YOUR OWN ESG INDEX

Our customised solutions are powered by our experienced index operation, research and ESG teams and managed under rigorous calculation and governance framework.? All our ESG indexes are compiled based on world-class, high-quality datasets provided by leading data providers, covering ESG ratings, climate metrics, product involvement, and adherence to the United Nations Global Compact principles.??We also provide innovative and forward-looking solutions by leveraging next-generation technology such as using Natural Language Processing to identify potential industry leaders and construct a new genre of equity thematic index[16]. Exhibit 4 showcases the diverse range of options available for our customised indexes across various dimensions.

As demonstrated in the following case study, our customised solutions offer a unique advantage to asset owners and other financial institutions navigating the complex and ever-changing landscape of the ESG market and regulatory environment. Our dedication to excellence and innovation enables us to deliver tailored solutions that meet the evolving needs of asset owners and support their sustainability objectives. We look forward to working with more asset owners and other financial institutions to support sustainability initiatives worldwide and enhance their portfolio returns in a sustainable manner.

Disclaimer

The information contained herein is for reference only. Hang Seng Indexes Company Limited (‘Hang Seng Indexes’) ensures the accuracy and reliability of the information contained herein to the best of its endeavours. However, Hang Seng Indexes makes no warranty or representation as to the accuracy, completeness or reliability of any of the information contained herein and accepts no liability (whether in tort or contract or otherwise) whatsoever to any person for any damage or loss of any nature arising from or as a result of reliance on any of the contents of this document, or any errors or omissions in its contents and such contents may change from time to time without notice.

The information contained herein does not constitute any express or implied advice or recommendation by Hang Seng Indexes for any investments. Investment involves risks. Prospective investors should seek independent investment advice to ensure that any of their decisions is made with regard to their own investment objectives, financial circumstances and other particular needs. Prospective investors should also note that value of securities and investments can go down as well as up and past performance is not necessarily indicative of future performance.?

? Hang Seng Indexes Company Limited 2024. All rights reserved.

[13] Regulation (EU) 2019/2088 of the European Parliament and of the Council of 27 November 2019 on sustainability‐related disclosures in the financial services sector

[14] Morningstar and Sustainalytics. (2022). Voice of the Asset Owner: Global Survey of Institutional Asset Owners

[15] Horton, C., & Jessop, S. (2022, July 28). Positive ESG performance improves returns globally.

[16] For details, please refer to Hang Seng Indexes Company (Apr 2023): ESG Insights: Power up a Green Transition with Hydrogen