China: Can ESG prevail in the Year of the Tiger?

Sustainability continues a fast climb up the agenda but policy, regulation and polluting practices keep investors on edge

As China sees in the lunar new year, investors continue to grapple with the ESG complexities of the fast-changing, global power. Asset managers spoke to ESG Clarity about what we can expect to see from China in the months ahead.

Regulatory tightening

James Penny, chief investment officer, TAM Asset Management

Regulation has become a big part of the problem with investing in China, unnerving investors and sparking fears that the country has made a sudden policy shift that could be described as ‘anti-business’. However, this can be disputed — the Chinese Communist Party (CCP) has proved in its almost 20-year track record that its economic policy has been one of prosperity and has helped lift hundreds of millions out of poverty. This is not going to be thwarted by regulation anytime soon, indeed in the interest of the CCP.

What we will see is policy shifts to reduce inequality and boost common prosperity, but if anything, this will make Chinese companies more stable and sustainable, and this should be deemed as a positive.

Regulatory tightening worrying the markets is also only one side of the coin. There are sectors that are being supported by the government — such as semiconductors, green technologies, and consumer brands, so it is unjust to say that the Chinese government is balking at growth.

Inclusive growth

Polar Capital China Stars team

The grassroots and government’s awareness and support for ESG have been accelerating. There is now a strong consensus that sustainability should be the cornerstone of China’s new growth model.

With China’s top-down commitment to peak carbon by 2030 and neutrality by 2060, and rising awareness to ESG issues among consumers and corporates, we believe it augurs very well for its transition to a more sustainable and inclusive growth model. China has already displayed actions to mitigate ESG issues.

China is facing a severe water scarcity problem, but its water supply system is leaking almost 15% of the precious resource, materially above the global average. Technology innovation and smart systems can provide the perfect solution. In 2021, we invested in a specialist in smart water. In one of its flagship projects with Shaoxin city, the city’s water leakage declined from more than 20% in 2010 to 3% in 2020, setting a high benchmark for the rest of the country.

ESG reports required

Alexander Kalis, managing partner and co-founder, Milltrust International

China is notoriously lagging when it comes to a standardised approach to ESG data disclosure and measurement. Without proper standards and measurements, it will be a tall feat for China to hit its twin 2030/2060 pledges.

One of the most useful developments we might expect in 2022 is the requirement by exchanges for listed companies to publish their annual ESG reports and to frame the rules in which every company can understand how to collect and report standardised sustainability data.

Hong Kong has had this in place since 2016 and recently upgraded its rules in July 2020 to ensure that ESG was embedded in all companies’ business strategy, key decision making and supply chain management and that these be visible to investors. Shanghai and Shenzhen have been expected to follow suit, but market participants have been waiting since 2018 (possibly delayed by Covid) and we now expect some announcements in 2022.

Addressing natural capital

Alina Donets, portfolio manager, Lombard Odier Investment Managers

As COP15 is about to take place in Kunming, China in Spring 2022, the agenda and corporate focus is likely to expand from the current climate-centric framework to a broader natural capital thematic.

With biodiversity in decline, global leaders are already recognising the need for improved economic and policy systems in support of protecting nature. Steps are thus expected to address other pressing areas of degradation of natural capital, such as pollution, desertification, water shortages or waste. Corporates are expected to follow, and we currently perceive untapped opportunities in circular economic systems, and the development of the bio-economy integrating nature into its production systems.

Such concerted action in the policy, technological and market spheres is accelerating the transition to what we define as a CLIC economy – one that is circular, lean, inclusive and clean, that in our opinion is already starting to re-shape Asia. The upcoming decade will be transformational for the world, where Chinese companies and its financial market have some the largest opportunities ahead of them.