‘We’ve seen significant shifts’: How LatAm is waking up to ESG’s investment potential
The pandemic has pushed public and private sector leaders to focus on ESG concerns and improve governance to attract investment.
Latin America has been one of the areas hardest hit by the pandemic. Dense population centers, extreme wealth inequality and inconsistent access to basic services including healthcare allowed Covid-19 to spread rapidly. The slow availability of vaccines in the region has also meant that Latin America is lagging other economies in terms of recovery from the pandemic.
The breadth and depth of the crisis throughout the continent is forcing governments to reimagine what local economies should look like. Over the past two years, Latin American governments have put a renewed focus on ESG to not only improve sustainability and equality but also to create a governance environment that will attract foreign direct investment. But it won’t be an easy path and there is the potential that other factors like rising inflation or new variants of Covid-19 could stall progress.
Government and institutional push
In Brazil, the Brazilian Securities and Exchange Commission (CVM) has proposed new disclosure requirements to increase transparency for ESG investors. Chile and Peru have proposed that pension funds incorporate ESG standards in their investment policies. Taken together, these initiatives are pushing companies to collect ESG data and implement governance processes to support enhanced disclosure.
Guillermo Lasso, the president of Ecuador, has also been a proponent of governance reform. During a recent meeting of the Regional Action Group for Latin America at the World Bank, Lasso told members that companies should be fully integrated across the social and sustainable development purposes of the country.
‘Ecuador must become and – has the potential to become – a global financial center,’ he said. ‘This will allow the country to attract investment, expand financial inclusion, benefit from better access to financing and a greater connection with global financial markets.’
Lasso’s vision of corporate governance for the future is one that includes business responsibility and solidarity with citizens. In his view, corporate governance improvements will support a more sustainable version of capitalism going forward.
Firms rush to catch up
Real money is also backing ESG initiatives throughout the region. Issuance of ESG bonds in Latin America topped $16.6bn from January to April, a new record, and issuance has remained elevated throughout the year. Enhanced ESG disclosure requirements are also giving equity investors new sources of information about the companies they invest in. Companies are also working to diversify boards and management teams in response to pressure from governments and investors.
‘There’s still a big gap in terms of data and ESG practices compared to, say, Europe, which has led the way for so many years,’ said Galantino Gallo, CIO and sustainability leader at Credicorp Capital Asset Management. ‘But we are getting more information from companies and we have included ESG factors as a core pillar in every investment fund we run. Companies and investors recognize that robust ESG practices are core performance considerations.’
Gallo said that Latin America may be able to leapfrog some other countries and regions as many policy leaders and management teams are pulling their frameworks and best practices directly from Europe.
‘There is a lot of engagement on these issues right now and because of that, we think there is an opportunity to avoid pitfalls and learn from what is already working elsewhere,’ Gallo added.
Stephan de Sabrit, managing partner at Leste Group, agreed. He argued that nowhere is the transformation more obvious than Brazil.
‘We have seen really significant shifts over the past five years,’ he said. ‘First, in the move away from big state and family-owned enterprises and toward private companies. Through the work of investors and entrepreneurs, there are now more laws on the books respecting shareholder rights and there is just an improved corporate culture in general.’
De Sabrit added that in many cases, big institutional investors – including Brazilian pension funds – have been the most successful at pushing for change. Brazilian pension funds have indicated that they won’t invest in companies that don’t meet ESG goals and other large institutional investors have similar rules.
‘There has been a recognition that the risk of losing these investors is really high – and obviously that’s going to have an impact,’ he said.
Josh Rubin, portfolio manager at Thornburg Investment Management said that investors are willing to pay a premium to invest in companies that can show they are taking corporate governance seriously.
‘Companies that have best-in-class corporate governance or those which have worked to improve their governance after prior missteps often receive higher valuations because investors feel they can trust management,’ he said. ‘With Latin America’s historical economic and political volatility, knowing whether a corporation can be trusted to do the right thing should be a paramount consideration for investors.’
While the number of initiatives underway to improve governance and other ESG factors is encouraging, it’s unlikely transformational change will happen in a totally linear fashion.
‘Part of why Europe has been the leader on these issues is that all of the countries move as a bloc,’ said Credicorp’s Gallo. ‘That’s not the case in LatAm. Each country is going to do its own thing. They may borrow from each other in terms of the approach, but it’s not going to be a unified effort.’
Issues that have been common to the region for decades could also hold back progress. Political risk remains high nearly everywhere in Latin America. Other headwinds, such as the ongoing pandemic and recent inflation pressures, could put ESG concerns on the back burner. That reality is why Jared Lou, hard currency portfolio manager on William Blair’s emerging markets debt team, said investors must remain disciplined when it comes to where and how they invest.
‘It’s certainly understandable why issues like governance or the environment are coming up right now in the region. I think there’s also just a growing awareness of sustainability in general,’ he said.
‘That said, there is also enough uncertainty out there that it is weighing on investments. For us, ESG isn’t the only lens through which we are looking at financial performance. We’re looking at the current economic situation, the political situation; we’re bringing in a variety of data before we make our decisions.’
Going forward, the uncertainty throughout markets in Latin America is likely to keep the pressure on policymakers and private companies to find solutions. If that happens investors could see continued improvements in corporate governance. If these countries want investors to stick around, they’ll have to show that they have robust economies that align to ESG goals and have investor protection built-in. Alfredo Garcia, senior partner and managing director at Snowden Lane Partners, thinks that’s possible.
‘I think we’re at a very interesting time right now,’ he said. ‘There is a tremendous opportunity for LatAm companies. Many of them were undervalued before the pandemic. If these companies show that they are engaging on ESG and making improvements, that could accelerate growth.’
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