Despite a traditionally higher risk profile, Emerging Market (EM) equities have proven resilient and shown relative strength following 2020’s 1st quarter volatility. Even more noteworthy is that EM companies that scored highly for environmental, social, and governance (ESG) metrics outperformed the broader market year-to-date.
Over the last decade, the MSCI Emerging Markets ESG Leaders Index, which tracks companies with high performance in ESG metrics relative to their peers, outperformed the broader MSCI Emerging Markets Index, with 6.30% annualized returns versus 2.87%, respectively, as of September 30, 2020. Interest in ESG issues is undoubtedly growing among investors, with ESG assets expected to reach $45 trillion by year-end.
Despite the rising interest in ESG and Socially Responsible Investing, a large portion of ESG assets and the majority of inflows remain in developed markets. ESG risks are not necessarily higher in EM than in DM, as all companies face the same spectrum of ESG risks, but EM remains in the early stages of ESG integration due to an ESG data desert. The shortage of data has less to do with the lack of reporting and more to do with the global underweight in EM equities, leading to a lack of coverage which is perceived as a lack of data.
Recent studies point to ESG investing having a particularly positive impact on returns in EM. Historically, companies in emerging markets were primarily focused on growth without considering pollution, land degradation, and certain labor rights. The development and maintenance of corporate social responsibility tend to rise in line with nations’ wealth. Therefore, as these markets grow in value, such standards should emerge, and an understanding of ESG is and will prove vital to EM investors.