In the first four months of 2020 investors steered $20 billion into ETFs and mainstream funds that proclaim a commitment to environmental, social, and governance practices. This amount is double from this time last year. The funds themselves have outperformed non-ESG funds during the global recession caused by the pandemic.[1]
Q2 2020 hedge fund letters, conferences and more
The acceleration of investing in firms transparently reporting their ESG risks and opportunities will only continue in the coming decade as a reckoning with environmental concerns – such as climate change and natural capital depletion, social risks – such as labor rights and fair wages, and governance risks – such as CEO duality and compensation, board independence, and dividend and share buyback policies – will require a response from businesses the world over.
This reality intersects with an increasing commitment by firms throughout Latin America to align their practices with globally accepted ESG standards.
Ample opportunity in Latin America exists and will continue to expand for investors.
What Is ESG?
While there is no one accepted definition, ESG is used interchangeably with sustainable investing and socially responsible investing. MSCI – a global provider of sector indexes – describes ESG as “the consideration of environmental, social and governance factors alongside financial factors in the investment decision-making process.” Environmental issues focus on the impacts of climate change and human intervention on natural capital. Social concerns regard human rights, child labor forced labor, workplace conditions, and management-worker relations. Governance refers to how firms are managed, specifically bribery and corruption, executive pay, board diversity, political lobbying and donations, and tax strategy.
The Principles for Responsible Investment, which partners with the UN Environment Programme Finance Initiative and the UN Global Compact, and the OECD – an international intergovernmental economic organization of 37 countries – have issued sets of guidelines to help facilitate the integration of ESG policies for investors and firms.[2]
There were $31 trillion in sustainable investments in the beginning of 2019 and Bank of America believes there may be $20 trillion growth in ESG assets over the next two decades. As a sign of the times, BlackRock Capital in June launched four ESG ETFs and filed to create two more, making good on a January pledge by CEO Larry Fink. Jeff Ubben, founder of the $16 billion hedge fund ValueAct, recently departed to create the ESG-minded Inclusive Capital Partners.[3]
Latin America and ESG
With this accelerating shift underway, the future of ESG investing in Latin America is now at hand.
Companies are increasingly integrating international ESG best practices and regional institutions are creating indexes listing the firms that exhibit the best qualities of transparent corporate governance, responsible stewardship of resources, and non-depredatory policies targeting the region’s natural capital. The institutional support encourages corporate behavior, creating a positive feedback loop.[4]
The IndexAmericas is such an example.
The Inter-American Development Bank and IDB Invest, the bank’s private sector firm, created the index in partnership with S-Network Global Indexes. It highlights the top 100 most sustainable, publicly traded firms operating in Latin America and the Caribbean. The IDB not only includes environmental, social, and corporate governance criteria, but also a metric regarding development. In particular, the IDB and IDB Invest created indicators to assess corporate actions towards small and vulnerable companies, inclusive supply chains, gender equality and diversity, and institutional capacity and the rule of law. These benchmarks are designed to aligns business practices with the mandate of the bank in confronting the principal challenges facing the region, namely social exclusion and inequality, low productivity and innovation, and the limited regional economic integration.[5]
It is noteworthy that the majority of the firms listed on the IndexAmericas are not based in Latin America or the Caribbean. Just 20 companies from the region are on the current 2019 list, including 12 from Brazil, two from Chile, and three each from Colombia and Mexico. Six firms have been in the top 100 each year of the index, including Brazil’s Engie Brasil Energia, Chile Colbun, and Mexico’s América Movil.
While the IndexAmericas is an important tool for understanding good corporate citizens operating in the region, the Latin American Integrated Market (MILA) is another institution to locate a growing number of firms committed to sustainable practices.
MILA is a 2009 agreement between the exchanges and depositories of Chile, Colombia, Mexico, and Peru permitting investors to buy securities of more than 700 companies through local brokers. The arrangement allows issuers of securities access to investors from all four countries, which make up nearly 40 percent of the region’s GDP. While this iteration of the Pacific Alliance may be moribund currently, it’s partnership with S&P Dow Jones Indices is remarkable.[6]
The Dow Jones Sustainability MILA Pacific Alliance Index launched in October 2017 tracking the performance of companies with the highest Corporate Sustainability Assessment (CSA) scores in Chile, Colombia, Mexico and Peru and offering investors an objective benchmark for managing a sustainability investment portfolio for the region. Initially, only 42 firms met the threshold, but that number has grown to 56 with a total market capitalization of $226 billion dollars.[7]
And the desire to join the list only grows in these countries. Peru currently has five companies on the index, but now up to 34 firms may qualify for it. Firms increasingly see inclusion on this index as talent recruiting tool and young professionals desire to work for firms that align with their values.[8]
Yet, it is the clamor from Latin American institutional and private investors that is most revealing. According to a 2019 study by Natixis, Latin America possesses the greatest global demand for ESG investments. Investors view these sorts of investments as not only a way to match values, but also to benefit from enhanced investment performance. The report shows that 62 percent of institutional investors agree that there is elevated risk adjusted returns, 51 percent believe ESG helps mitigate risk, and 62 percent think integrating ESG will become standard practice for all managers within five years. [9]
And these investors are on to something. A 2019 academic study of Colombian and Chilean firms finds a positive relationship between the publication of sustainability reports and the increase in company value.[10]
The future of ESG investing in Latin America is now at hand.
By Steven Hyland Jr., PhD and Gabriel Thoumi, CFA, FRM
Footnotes
[1] Caitlin McCabe, “ESG Investing Shines in Market Turmoil, With Help From Big Tech,” Wall Street Journal, 12 May 2020, https://www.wsj.com/articles/esg-investing-shines-in-market-turmoil-with-help-from-big-tech-11589275801; Emily Chasan, “ESG Funds Are Ready For Your Retirement Plan,” Bloomberg, 20 May 2020, https://www.bloomberg.com/news/articles/2020-05-20/pandemic-shows-esg-funds-are-ready-for-your-retirement-plan; George Kell, “Covid-19 Is Accelerating ESG Investing And Corporate Sustainability Practices,” Forbes, 19 May 2020, https://www.forbes.com/sites/georgkell/19/covid-19-is-accelerating-esg-investing-and-corporate-sustainability-practices/#408d41b126bb; Natalie Zhang, “How ESG investing captured trillions of dollars on Wall Street,” CNBC.com, 25 June 2020, https://www.cnbc.com/25/what-is-esg-and-socially-responsible-investing.html [2] For further information, consult the UNPRI, https://www.unpri.org/, and OECD, (2017) Investment governance and the integration of environmental, social and governance factors, https://www.oecd.org/finance/Investment-Governance-Integration-ESG-Factors.pdf [3] Wendy Woods, “Sustainable investment continues to gain momentum,” World Economic Forum, 25 February 2020, https://www.weforum.org/agenda/2020/02/sustainable-investment-gain-momentum/; Richard Henderson, “Europe leads the $31 trillion charge on sustainable investing, Financial Times, 31 May 2019, https://www.ft.com/content/fef1a4fc-8354-11e9-b592-5fe435b57a3b; Reinicke, “Bank of America”; Ballentine, “BlackRock Bets on Increased ESG Enthusiasm”. [4] Luciana Flores, “Índice de Sostenibilidad del MILA: más cupos para empresas peruanas, más urgencia, Semana Económico, 2 April 2020. [5] For further information, consult https://indexamericas.iadb.org/ [6] Gabriel Alvarez, “Los integrantes de la comisión que analizará la integración de la Bolsa de Santiago con sus pares de Perú y Colombia,” La Tercera, 14 January 2020, https://www.latercera.com/pulso-trader/noticia/los-integrantes-la-comision-analizara-la-integracion-la-bolsa-santiago-pares-peru-colombia/973863/; [7] Consult Dow Jones Sustainability MILA Pacific Alliance Index, https://us.spindices.com/indices/equity/dow-jones-sustainability-mila-pacific-alliance-index#overview [Accessed 24 June 2020] [8] Flores, “Índice de Sostenibilidad del MILA”; NELDOR, “Los destacados del índice de sostenibilidad: Estar en este listado es una oportunidad para que las organizaciones se midan con sus pares en todo el mundo o con economías similares,” El Tiempo, 26 September 2019; “Nemak, Arca C. son incluidas en el índice de sustentabilidad del MILA,” CE Noticias Financieras, 18 September 2019; “Televisa es incluida en el índice de sustentabilidad del MILA,” CE Noticias Financieras, 23 September 2019; “Mobile America, FUNO, Cemex incluindo o índice de sustentabilidade MILA,” CE Noticias Financieras, 26 September 2019; “FEMSA e KOF estão incluídos no índice de sustentabilidade da MILA, CE Noticias Financieras, 19 September 2019. [9] Natixis Investment Managers, “Latin America has the Greatest Global Demand for ESG Investments,” 5 August 2019 [10] Diego Andrés Correa Mejía, et. al. “Aproximaciones sobre la incidencia de los reports de sostenibilidad y gobierno corporativo en el valor de las empresas: evidencia desde Chile y Colombia,” Citerio Libre 17, no. 30 (2019): 233-254.
