Dr King Lun Au, executive director at the Financial Services Development Council (FSDC) discusses Hong Kong’s “unique” role in developing ESG in the region with Romil Patel.
During 35 years in the funds industry, you’ve seen numerous events, from SARS to the global financial crisis and now Covid-19. This has not just had an impact on global health, but also shown the centrality of implementing ESG for better social outcomes and, essentially, human survival when we consider the climate crisis. What is your analysis of the role of ESG for investors, and the implications for people around the world depending on how it is implemented?
It’s partly driven by asset owners as well as by stakeholder capitalism. Stakeholder capitalism is an idea that companies should serve the interests of all their stakeholders including customers, suppliers, employees as well as the local communities – not just shareholders. Companies should aim to create long-term value for all stakeholders rather than focusing on maximising short-term shareholder value, and the pandemic has accelerated this fundamental shift in investing behaviour. Investors are now trying to reward companies that respond to the crisis by focusing on long-term sustainability rather than prioritising near-term profits at all costs.
A few years ago, when we got a mandate from a European institution, ESG was part of the due diligence question, but nowadays there is a separate questionnaire and it’s getting far more attention, and the shift has been given an extra push by Covid-19. In the first quarter of this year, sustainability-focused funds attracted record inflows globally to the tune of around US$46 billion (€39 billion), and yet the industry as a whole suffered an outflow of $385 billion. Almost 80% of those fund flows went into ESG-type index funds. Even though it’s probably too early to draw the conclusion that ESG has overcome the Covid-19 challenge, we are definitely seeing this trend picking up as a result of the pandemic.
You have been appointed for a three-year term – what are your ESG priorities for Hong Kong’s financial services industry and what do you see as the right strategic direction for its sustainable development?
In Hong Kong, we have a unique role to play in the development of ESG. China is the world’s second-largest green bond market, and its government has pledged to go carbon-neutral by 2060. The government has made a top-down decision, but the problem is that the East and West’s view still has differences in terms of definition, standard practice – and Hong Kong being a melting pot between the East and West has a key role to play.
We believe Hong Kong should try and come up with a standard on ESG which bridges the gap between Europe and China. Europe has set the gold standard when it comes to ESG and we believe Hong Kong can help China move up on ESG.
The government has been quite supportive when it comes to green finance. In May 2019 it issued a $1 billion green bond and it was four times oversubscribed. Last year, $10 billion worth of green bonds were issued in Hong Kong by the government and corporates, so an awareness is there. Another driver is family offices, because China has a lot of fintech companies. The Greater Bay Area (GBA) is like a new economic zone and in that region alone, there are 33 unicorns (as of Q3 2019). Hong Kong started becoming the preferred listing place for a lot of these mainland companies, especially fintech companies. In the past they preferred Nasdaq, but now, because of geopolitics, we have seen Hong Kong becoming more attractive. There’s a lot of newfound wealth – these are young entrepreneurs and they are much more environmentally conscious and socially responsible than the older generation. We are seeing a lot more interest in Hong Kong from various young investors on impact investing.
How is Hong Kong’s financial services industry positioned to support green finance in developing the Greater Bay Area (GBA) – particularly as it will eventually allow a wide range of financial services products cross-border access to more than 70 million people?
Hong Kong is a small city; we don’t have that many green projects, but China is different – and yet they don’t have the international expertise for green finance. This is where Hong Kong can play an important role in terms of trying to bridge the gap in the standards, but also product packaging offering – green loans, green bonds, certification and so on. Hong Kong can come up with a green project certification standard that is acceptable to foreign investors – if that’s the case, then we can attract a lot more foreign capital into mainland China’s green finance market. Even though China is the second-largest green bond market in the world right now, there are very few foreign investors in that market, maybe because their standard is very different to the European one.
What are the top challenges Hong Kong faces in developing sustainable finance further and faster?
Firstly, cost because we are in an early phase of adopting ESG. There is a cost in terms of education and implementing new policies. For green finance and projects, we need to bring in new expertise to manage these products because traditional management will not be familiar with this new approach. So, it’s about how to subsidise this cost – whether the government can provide incentives, or banks or capital providers can take a more long-term view and not charge all the development cost upfront.
The second cost is education. Even though the stock exchanges require all listed companies to carry out ESG reporting, a lot of small to medium-sized companies didn’t even know what ESG meant until they saw the requirement.
The other challenge is how soon we can actually open up the GBA, because the Hong Kong market is too small. We talk about green finance and green loans – there aren’t that many green projects in Hong Kong because of the size of the city, but the GBA is a different story, so that is why we need to speed up the GBA integration.
The FSDC recently set out a number of policy recommendations for Hong Kong to consider. What do you consider to be some of the lower-hanging fruit which can be implemented more easily and in a shorter time frame?
Certification – we are rolling out our own certification process for green finance. Hopefully we can achieve international recognition and that will definitely be important for us to become an ESG hub in Asia, because in order to attract foreign investment into Asia, ESG investment is very important. Investors need to recognise that these are certified green projects, otherwise they will have the same problem as China – the second-largest green bond market but no foreign money going into it.
In the next three to five years, are you optimistic or pessimistic about Hong Kong’s ESG investment landscape?
I am optimistic, and we partly have the global index providers to thank for launching China ESG indices. As these ESG indices are being adopted by global investors, many listed companies will enhance their ESG standards and disclosure.
As full-scale ESG adoption will take time, so overseas investors may need to take a gradual approach to cater for local market conditions in Asia. In fact, I have come across regional equity mandates from European institutions with stringent ESG requirements. So, this external pressure actually helps China raise the bar on ESG, and Hong Kong has a key role to play in this process.
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