ESG INVESTMENT IMPLICATIONS IN EMERGING MARKETS, AND OLYMPIC-SIZE CORRUPTION

Weekly Viewpoints on Sustainable Investment 

In this week's note some reflections from a global webinar on emerging markets, looking across to Brazil and ahead to PRI in Person in Cape Town. 

Low altitude sky view of Cape Town harbour and city centre toward Table Mountain, 9 July 2013. 
PHOTOCREDIT: Jean Tresfon, by permission. http://www.flickr.com/photos/jtresfon/

EMERGING RULES OF INVESTMENT     

The rules of investment are different in frontier and emerging markets. Even before the start of the 100th edition of the Tour de France 13 stages ago, I had taken to explaining the gaps between regulations and realities in investment by using the example of cyclist Lance Armstrong (first "I never tested positive" for a decade, then that tear-jerker Oprah Winfrey half-apology apology). Investment, and investment analysis, in frontier and emerging markets happens across borders of regulations, guidelines and laws. The SinCo Investment Philosophy is that there is ESG in every investment decision in the global professional investment management industry, sized at $62 trillion by BCG. Sustainable investment is proactive approach to advanced investment management through integrating ESG factors. It is a broad term, and details matter. None more so than when investing in frontier and emerging markets, the subject of Thursday's global webinar hosted by MSCI ESG "ESG Investment Implications for Emerging Markets". My view remains that "emerging markets" tag is a sweeping simplification, useful in the 1980s when coined by the IFC, redundant in this decade. China has an orbital manned space program, India launched a missile from a submarine platform. Emerging?! We have a competitive economic marketplace in which "[c]hanging trade patterns show, the BRICs and the N11 becoming bigger should make us all wealthier in aggregate...the view of the BRIC countries becoming bigger than the US before 2015, and bigger than the G7 by 2035..." according to Jim O'Neill in his last note "The World Still Needs Better Economic BRICs" in April 2013.

My presentation to the global webinar covered two major themes (slidedeck here http://slidesha.re/13DiVpC):

A. Beyond BRICS countries, towards frontier markets and frontiers of ESG:  

1. Defining your universe of opportunity, and your portfolio entry points. 
2. Understanding the license to operate of professional investors and their portfolio companies. 
3. The scope of rules and regulations is smaller than global reputations. 
4. Relationships are critical in markets with more forms of alternative ownership models and new offerings.

B.  PRI in Person outlook, the enigmatic Africa opportunity: 

1. PRIiP2013 has an important footprint effect for PRI, leveraging strategic opportunity in Africa.
2. Introduces opportunities in fragments, the frustrating search for scale. 
3. The asset allocation decision and sector exposure may be more important than the geographic universe opportunity in Africa. 
4. Will the PRI legacy be more than FIFA FWC 2010?

ESG may act as a proxy for advanced due diligence or a marker for absent rules in the marketplace. Food and beverage products with a good reputation are critical to food and beverages companies, as well as their investors, regulators, consumers, and politicians. Food is politics, never more so than when analysis by FAO and OECD predicts that cheap food is history. The Access to Nutrition Index project has illustrated to me that making ESG happen in growth markets will reveal limits to ESG data coverage, national differences in reporting, culture differences, language and jargon barriers, and opportunities to re-interpret ESG concepts. 

PRI ANNUAL EVENT COMES TO AFRICA

Africa introduces opportunities in fragments, and may frustrate businesses and investors seeking for returns to scale, because the continent is so diverse, and so large. For investors seeking exposure to the Africa growth story (not the McKinsey-esque hype, the other story based in reality), I suggest exploring the asset allocation decision and sector exposure. Choosing the right sectors, and which asset classes to invest through may be more important than the geographic universe opportunity to be had in covering Africa. At SinCo we encourage thinking that mirrors the business being done in emerging markets, following anchor industries with multi-stakholder high-impact, high-visibility sustainability profiles, for example, investing in frontier markets in the mining sector faces issues of resource scarcity, above-ground risks, lesser regulated jurisdictions, community pushback, transparency, the "Bumi syndrome" where historical, relational business collides with expectations of corporate governance. So investing in this theme will track a material economic and sustainability trend. The Africa growth story is overplayed. This is demonstrated plainly by the latest UNCTAD report describing intra-Africa trade barriers, often experienced by overland travelers and trucks by hours-long border crossings. 

And so the annual event machine that is the PRI in Person event is cranking up for the conference 1-2 October being hosted in Africa for the first time. Like the FIFA Football World Cup 2010, it will be in Africa's largest economy, South Africa. Africa has been represented in the Principles for Responsible Investment (PRI) from the start by Africa's largest sovereign wealth pension fund, the US$131 billion AuM Government Employees Pension Fund of South Africa. The PRI South Africa network was one of the first country networks, illustrating the take up by investment managers and services providers, asset owners have been largely absent. John Oliphant, Head: Investments & Actuarial, has lobbied hard to get the annual show onto the continent. I was at a particularly frank meeting of stakeholders in 2010 when investment professional colleagues were left staring at their notepads as questions about making responsible investment happen in Africa were hanging in the air over the boardroom table at GEPF headquarters in Tshwane. 

The PRIiP2013 agenda has taken shape for the 2 days (http://www.unpri.org/events/pri-in-person-cape-town/). I am pleased that private equity is receiving specific attention, albeit outside the formal program on 4 October and have supported the PRI team in London with designing the program, and encouraged the co-work of private equity associations AVCA and SAVCA. PRI is being hosted in a city, within a country and on a continent that has a long history and a demanding current reality. PRIiP2013 delegates do well to scale their rhetoric to the realities. Impact, longevity and equity matter: global asset management is $63 trillion, only $450 billion in emerging markets. Will PRIiP2013 leave a better legacy than FWC2010? FIFA made a tax-free $1 billion in 2010, forced the building of the beautiful white elephant stadium in Greenpoint, Cape Town, and stoked a corruption wave in South Africa that saw a whistleblower assassinated and that is today still playing out with construction companies "facing a firing squad" according to the CEO OF Murray & Roberts (OTCMKTS:MURZY). Corruption is a two-way deal. Sustainable investment aims to come down hard on corruption in business, and most ESG dashboards have pretty sophisticated approaches to filtering governance failures. The details of how the market was manipulated needs to be further understood. Meanwhile construction companies governance scores in South Africa will have tanked. 

CONSTRUCTIONS FIRMS AND WORLD CUPS/OLYMPICS: IT'S COMPLICATED

Based on the largest street protests in a generation in fellow BRICS major Brazil, it looks like the role of construction companies, and their billion dollar contracts, will also play out. I am looking forward to the FIFA FWC2014 in Brazil (especially following THAT 3-0 hammering of Spain last week), and the Rio Olympics 2016. In the withering glare of the business media this week has been billionaire Cesar Mata Pires (Bloomberg: "World Cup Billionaire Stirs Brazil Protests Over Stadiums"). The 90% shareholder of construction firm OAS has benefited hugely from infrastructure projects, and has leveraged financing from Brazil's BNDES development financing bank. OAS has low income housing deals with Brazil's 3 largest pension funds which have an asset base 2x Luxembourg's GDP in 2012. BNDES saw its loans double since 2008 to 156 billion reais last year, twice the total lending of the World Bank. PRI Board member, PREVI, is the largest in Brazil, and is based in Rio de Janeiro. Apparently, a street protester's placard allegedly included "The $ for Education Went to OAS". Ouch! No doubt @BW journalist @BlakeSchmidt is off Mr Pires's scoop shortlist... Bloomberg reports that with the help of subsidized loans from Brazil’s state development bank, closely held OAS SA had revenue of $3.4 billion last year. The OAS head of investor relations Barreto described protesters’ "targeting of OAS is “ignorant” and “simplistic,” and that the company obeys the law...It’s the only existing business model in Brazil." In future posts I will offer some comments on alternative ownership structures and the role of the national governments in frontier markets in financing growth.

MARKETPLACE REPORT ON ESG IN AFRICA INCOMING AUGUST 2013

And finally, a quick update on the marathon project to roll out the AfricaSIF.org 2012 Trends Report (http://www.africasif.org/trends-2012.php). Along with the all-volunteer team of practitioners and graduate students across Africa, I have been working on nailing down the data, analysis and commentary for this first-ever report. The excitement in the report is this new analysis from Africa for Africa and the world. The team is now targeting the IMN Africa Cup of Investment Management 27-29 August for the start of the launch roadshow. This first-ever reporting of professionally managed assets investing in Africa with ESG in some way included in the process. Collaborative project includes GEPF, MSCI, Bloomberg, Investec Asset Management, SinCo, RisCura, Mergence Investment Managers, OMIGSA, and Frost and Sullivan. The survey estimates that the level of sustainable investment in Africa is high with about $233 billion AuM or 63.4% of total AuM of Africa investments is self-reported to be managed according to sustainable investment principles. This implies the African (competitive) market is material for sustainable investment firms, but also pretty scrappy to command market share. Research is costly, especially north of South Africa where reporting is thinner. This helps explain why all major ESG research shops now have decent large firm coverage in South Africa, and why MSCI ESG just hired their first Africa-based analyst starting end August 2013 in Cape Town. Good timing. Chris Froome, current race leader and likely the first Africa-born winner of Le Tour, may be lying on his couch wearing a yellow jersey by the end of July.

Do good work on sustainable investment that matters.

Graham Sinclair
@esgarchitect

Principal
SinCo - Sustainable Investment Consulting
www.sincosinco.com
@SinCoESG

Based on my work, experience and interactions, all views and opinions expressed are those of the author and do not reflect the named individuals, institutions or SinCo, it's clients or services providers. No mention suggests endorsement. This commentary does not constitute investment advise. Issued by SinCo to professional investors and stakeholders for information only and its accuracy/completeness is not guaranteed. All opinions may change without notice and may differ to opinions/recommendations expressed by other business areas of SinCo. SinCo may maintain positions and trade in collective investment instruments referred to. Unless stated otherwise, this is not a personal recommendation, offer or solicitation to buy/sell and any prices/quotations are indicative only. SinCo may provide sustainable investment architecture and other services to, and/or its employees may be directors of, companies referred to. To the extent permitted by law, SinCo does not accept any liability arising from the use of this communication.

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UPDATED 15 July 2013: Text edits, paragraphing, hyperlinks.

Rates of Return

Portfolios have now locked in the performance numbers for 2008. Funds were just wrapping up a little window-dressing of holdings at year end, re-balancing before illiquidity forces funds to hold tight, and watching for any bad news from around the world. Portfolio managers around the world will look back glumly at the hammering most portfolios took in the second half of 2008, and look forward to 2009 with gritted teeth. The major indexes flip through the story: S&P 500, Wilshire 5000, Dax, KOSPI, NIKKEI, ALSI 40, FTSE100, BOVESPA, DJSI Global. Only Tunisia was up [10%] for the year – nice work from North Africa! See Reuters FACTBOX-Final major global market losses and gains for 2008

Forecasts trend to the negative, including some that leave one cold, like today’s Factories hit by worst slump in 28 years. Moneyweb’s dry humour delivered the understatement of the year: JSE vs world markets in 2008 - It doesn't look pretty [!]. Large cap growth index tracker Vanguard FTSE Social Index Inv (MUTF:VFTSX)was down in the mid $0% range. One of my favourite small-cap growth equity mutual funds run from Boston by Mat Patsky, Winslow Green Growth(MUTF:WGGFX), was hit 62% for the year. The glass half-full: well, unlike another great fund, at least it is still standing in 2009… See Matt's comments on green investing from Feb when he was ooking forward to poitive net inflows. "When this bear market ends, be prepared for a fast and furious partial recovery," S&P's chief investment strategist Sam Stovall writes in his 2009 outlook. Historically, the S&P 500 has recouped, on average, 33% of its bear market losses 40 days after a bottom.

But at last the annus horribilis for money managers around the world has ended. Being one comfortable as an outlier, I am happy to see the glass half-full, but making the right bets and managing the volatility will be harder.

In Africa’s money management capital, Cape Town [CPT], New Year’s Day 2009 was sunshiny and blue-skied, and well-celebrated as usual, as the NYT reported. The beaches were full, and the Table Mountain cableway had a 600m queue of patient tourists mostly pale, but grilling nicely in the full African sun. You could hear the sizzling. Spreadsheets covered in red have mercifully been archived with just the year-end report backs to pension fund trustees and financial advisors to come before 2008 can be boxed as “the year of the market meltdown”. The pendulum will no doubt swing to over-regulation, and we may look forward to the finesse of the sledgehammer of politicians trying to predict and protect market players from themselves, at least until the next crisis resulting from too much regulation.

The summer weather at the bottom end of Africa and the usual European-style year-end shutdown of the holiday season eases the pressure and keeps one sane. In CPT the type-A investment professionals will be out early or late, on MTB trails in Tokai, running Table Mountain [I bumped into the CEO of Investec Asset Management, one of the big four, the other day]. Water options include wind- or kite-surfing on Sunset or surfskiing from Three Anchor Bay. As one money manager in San Francisco [CPT’s American twin city] commented, at least an hour of exercise per day is necessary to blow off the pressure of needing to be right with major decisions every working day. The major national business dailies' [Business Report and Business Day, as well as FT distribution] print editions are closed through Wed 7 Jan as a reflection of how things slow down. Just the web and the informed few in conversation in business class on aeroplanes or in Plettenburg Bay and similar holidy spots keep the pulse of business conversation throbbing. The success of the SA cricket team in Australia, up 2-0 in the 3 Test series and winning in Australia for the first time has lifted the mood many. A miracle comeback in Perth and a beyond miracle comeback in Melbourne have written the players as legends. If only more people were at their workstations so we could remind our Australian colleagues of the arrogance the past 13 years or so… The final test in Sydney offers the chance to go no.1 in ICB rankings.

Hugh Wheelan put out a thoughtful piece in Responsible-Investor.com just before Christmas, reflecting some of the conversations we have been having about the impact of the meltdown and ESG investment research as ongoing concern and business unit [see What’s the future for ESG broker research? SRI team cuts and the merger of EAI and PRI demand clear future research incentives by Hugh Wheelan, December 22nd, 2008] “a worrying development for those concerned that ESG research, still a relatively new and growing discipline, could become ‘mainstreamed’ for cost rather than content reasons”. Ironically, the cuts at Deutsche Bank ESG research in London have come as calls for more corporate governance research has flooded in.

I expect more testing of where the sustainability meta-theme intersects with “business as usual” in 2009. My philosophy that sustainability is a meta-theme, over-arching and impacting all facets of economic life on this planet, implies I am less perturbed by the coming or going of specific business units with “sustainability” tags. Like many others, my BS filter often blinks red when talking with so-called experts in sustainability, or some initiatives, or companies spinning the same old stuff through the “greenwashing” cycle [see Corpwatch's bimonthly greenwash awards]. A comment in an excellent Fast Company article from “artiste” architect Steven Holl rings true in my work as an investment architect. Some of the sustainability stuff is ugly!

One facet of his work that he actually downplays, however, is his interest in sustainable architecture. "I'm sorry to say, but 85% of so-called green firms make some of the ugliest buildings that were ever made," he says, in a typical excess of candor. "So for God's sake, I don't want to be categorized with them."

It is hard to put a value on a life, but the ROR for one woman’s life is high. The biggest news in the city was the passing of a political legend in SA, Helen Suzman. Ms Suzman was renowned for many years in the whites-only SA parliament as the sole representative of the opposition Liberal Party standing up to the National Party and the apartheid machine from 1961-1973, at least from the inside. The fact that she was female, English-speaking and Jewish must have caused endless indigestion for chauvinistic Afrikaners dreaming of a great white nation. In one of those ironies, in seeking to break down racial barriers Ms Suzman represented Houghton, an elite enclave in Johannesburg’s leafy suburbs, not far from where I enjoyed some years in the mid-1990’s, and an excellent fitness center at Old Eds. I never had the pleasure of meeting her, but her lifetime journey and steadfast integrity to her cause remains a remarkable life lived well. 91 good years. Beyond her signal achievements in life, two parallels to the conceptual and contextual work in sustainability + investment come to mind: firstly, the dogged nature required moving forward with the expectation of being a lonely traveler on the journey, and secondly, respect of her rivals. Her former opponents were forthright in their praise in media coverage, although maybe all of them mellow with age, knowing their fight are now decades old, and as older people, they are more collegial than competitive. Major South Africans have been forthright in their praise, and fittingly the icon on democratic South Africa offers the simplest and best admonition: Nelson Mandela described her as “a remarkable South African woman”. South African flags will fly at half-mast on Sunday January 4th 2009 in honour of anti-apartheid veteran Helen Suzman.