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Here is Why ESG Holds Significance in Asset Management

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As an institutional investor, consider your investments—a hotel, club, restaurant, anything. Being an investor requires knowing how to allocate the appropriate funds to the right asset at the right time. But what if you have someone who can intricately manage that for you? This is where an asset manager would step in and decide what exactly investors must expect in return from their assets. They define the metrics and targets to be achieved so that the entire asset is optimized to its maximum potential. Then, there is ESG: environmental, social and governance.

  • Environmental: issues related to the quality and function of the natural environment and systems around which the asset operates.
  • Social: issues related to the rights, well-being and interests of the people and communities.
  • Governance: issues related to the way companies are managed and overseen.

Investors have always been the key force for asset managers’ adoption of ESG strategy. About 85 percent of hedge fund managers have estimated that institutional investors are the biggest drivers of ESG funds, and the percentage of investors implementing ESG rose by 18 percent from 2019 to 2021.

With ever-increasing risks surrounding the environment, renewable energy, human rights, business ethics and labor standards—governments, companies, institutional investors and their asset managers are now questioning the extent to which their assets are responsible for the damage that has been caused. They are also exploring what can be done to mitigate these risks in the future, so that they are optimizing each asset to its best capacity. Investors and asset managers are smart enough to identify which assets show genuine ESG compatibility and, with the help of the regulators, provide oversight of green funds doing what they are intended to do and living up to their branding. To make the most of the funds and fulfill their purpose, asset managers are required to define the overview and context of what ESG means to them when identifying the metrics for their asset’s performance. It comes not only from the financial point of view; the ESG lens can be a solid risk-management tool with non-financial outcomes.

The non-financial factors that affect the performance of the asset must be managed well because they tend to be more efficient, aligned with the preferences of the investors, and generally less exposed to the risks by various regulators from different domains. But one may ask: what would be the non-financial ESG factors that asset managers may consider for their investment performance? Let us take a look:

  • Environmental: greenhouse gas emissions, climate change resilience and pollution control (air, water, noise and light).
  • Social: workplace safety, cybersecurity and data protection, human rights, and local stakeholder relations.
  • Governance: fiduciary duty, board diversity, bribery and corruption, executive compensation and independence of chair and board.

Asset managers must work closely with investors to create their own policies and standards. Lack of standardization provides an operational burden on asset managers, thanks to additional due diligence requests and customized reporting for prospective investors. As asset managers begin to set their own ESG policies and/or offer ESG products, managers must consider their overall ESG investment strategy (i.e., activist versus passive ownership) and implement policies to support that chosen strategy. Lastly, emphasis on ESG investment is picking up globally and regulatory bodies either already mandate how asset managers meet and disclose ESG objectives, or they are determining how they should bring forth regulations. For managers and investors who decide to set an ESG policy and offer responsible investment products, they must determine the regulatory requirements for each region and legal jurisdiction in which they operate, as there is not yet alignment on global standards.

While it may come with operational challenges, asset managers must consider ESG across the whole office. Front office teams must ensure their investment screening and portfolio construction decisions align with ESG mandates and investors’ expectations, while compliance and regulatory teams in the middle and back offices must provide a review function for adherence to mandates and regulations. Thus, asset managers will want to explore how to proactively include ESG mandates in the assets to help ease pressure and support the smooth transition of socially responsible investing.

An emphasis on ESG investing may be in the early stages in most regions of the world. Still, its impact will only advance as governments and society place more importance on managing climate risks and socially equitable business practices.

This blog post tied for First Place in the Fall 2022 HFTP/MS Global Hospitality Business Graduate Student Blog Competition presented by the HFTP Foundation. Participants are students participating in the Master of Science in Global Hospitality Business, a partnership between the Conrad N. Hilton College of Global Hospitality Leadership at the University of Houston, the School of Hotel and Tourism Management at Hong Kong Polytechnic University and EHL. The blog posts that received the top scores are being published on HFTP Connect through March 2023. Learn more at HFTP.

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