ESG Requirements for Fund and Asset Managers in Hong Kong and Singapore
ESG (Environmental, Social and Governance) is a set of criteria that refers to the assessment of a company’s performance with regards to a range of socially desirable objectives. ESG is used to evaluate how a company performs in terms of its environmental practices, social responsibility, and corporate governance. By taking into account these factors, investors can make better decisions about their investments and support positive societal contributions through their investment.
The ESG concept was first coined in a 2005 United Nations Global Compact report titled ‘Who Cares Wins’. Though it initially gained sweeping popularity across Europe and America, local regulators in Asia in recent years have been increasingly supportive of ESG adoption and implementation.
Both the regulators in Hong Kong and Singapore have implemented requirements relating to ESG which we have set out in an article below.
PDF version: ESG Requirements for Fund and Asset Managers in Hong Kong and Singapore
Position of Regulators in Hong Kong and Singapore on ESG
In Hong Kong, regulatory authorities have been proactive in promoting the adoption of ESG practices among fund managers. The Securities and Futures Commission (“SFC“) has implemented various instruments, such as Circulars, FAQs, and the Fund Manager Code of Conduct (“FMCC“), to impose multi-tiered framework for ensuring compliance with ESG standards among fund managers.
In Singapore, through publications such as the Code of Corporate Governance and Guidelines on Environmental Risk Management (for Asset Managers), the Monetary Authority of Singapore (“MAS”) has also imposed specific requirements on asset managers relating to leadership, accountability, effectiveness, and disclosure. These measures are part of a wider regulatory regime aimed at encouraging the adoption of ESG practices.
Requirements in Place in Hong Kong and Singapore
In Hong Kong
The September 2018 Strategic Framework for Green Finance introduced by the SFC is reckoned to be one of its early initiatives in promoting Hong Kong as an international green finance center. Further to that, in August 2021, the SFC issued a circular on ‘Management and Disclosure of Climate-related risks by Fund Managers’.
This SFC circular outlined the anticipated standards necessary for compliance with the revised FMCC. This new regulatory framework, which has been in effect since 20th November 2022, imposes baseline requirements for all licensed fund managers within its scope. The requirements cover the following key areas: Governance, Investment Management, Risk Management, and Disclosure.
Scope of Applicability of the Requirements
Firstly, it is important for fund managers to determine whether they are in-scope of the SFC’s ESG requirements. The new requirements apply to fund managers in Hong Kong operating with a Type 9 (Asset Management) Regulated Activity license under the Securities and Futures Ordinance (“SFO“).
Licensed corporations who are without investment management discretion fall out of scope of these requirements.
For fund managers who fall within scope, applicability requirements are dependent on 3 factors of (i) Relevance, (ii) Materiality and (iii) Responsibility for the Overall Operation of Fund (“ROOF”). Below is a workflow diagram to determine the applicability of the SFC’s ESG requirements:
Table 1
Scenario | Relevant | Material | ROOF | Pillars | Requirements |
1 | × | – | × | · Investment Management | – Re-evaluate relevance requirements at periodic intervals. |
2 | × | – | ✓ | · Investment Management · Disclosure | – Re-evaluate relevance requirements at periodic intervals. – List out types of investment strategies for which climate related risks are not relevant. |
3 | ✓ | × | × | · Governance · Investment Management · Risk Management | – Define the Board and Senior Management’s roles, oversight and responsibilities towards managing climate-related risks. – Re-evaluate relevance and materiality assessments at periodic intervals. |
4 | ✓ | ✓ | × | – Define the Board and Senior Management’s roles, oversight and responsibilities towards managing climate-related risks. – Implement relevant tools and metrics to evaluate and quantify climate-related risks | |
5 | ✓ | × | ✓ | · Governance · Investment Management · Risk Management · Disclosure | – See Table 1, Section 1 – Governance Requirements – Re-evaluate relevance and materiality assessments at periodic intervals. – Disclose: (i) governance arrangements; and (ii) risks and investment management processes in relation to climate-related risks. |
6 | ✓ | ✓ | ✓ | – See Table 1, Section 1 – Governance Requirements – Implement relevant tools and metrics to evaluate and quantify climate-related risks. – Disclose: (i) governance arrangements; and (ii) risks and investment management processes in relation to climate-related risks. |
Additional Requirements (Table 1A)
|
Large Fund Manager |
Pillars |
|
× |
N/A |
|
✓ |
· Enhanced Risk Management · Additional Disclosures |
Details of the Requirements
Once a fund manager has determined the applicability of the requirements, they should examine each one in detail to understand the appropriate measures for compliance. The requirements have been succinctly summarized as follows:
Table 2
S/N | Areas | SFC Requirements |
1 | Governance | Board’s Roles and Responsibilities · Define the board or board’s committee’s roles in implementation of climate-related considerations. · Oversee progress against goals for addressing climate-related issues. · Determine how the board/board committee executes their role including the processes and frequency of their involvement. Management’s Roles and Responsibilities · Assign responsibilities for managing climate-related risks to management-level positions which report to the board/board committee. · Determine how the management will monitor the status and progress of efforts and establish an internal reporting process. · Devote sufficient human & technical resources to climate-related risk management and establish internal protocols to ensure compliance. · Set goals for addressing climate-related issues and develop action plans for managing climate related risks. |
2 | Investment Management | · Identify relevant & material physical and transition climate-related risks for each investment strategy & fund it manages. · As relevant, factor climate-related risks into investment management process. · Take reasonable steps to assess the impact of these risks on the performance of underlying investments. |
3 | Risk Management | · Take climate-related risks into consideration in risk management procedures and ensure appropriate steps have been taken to identify, assess, manage and monitor the relevant and material climate-related risks for each investment strategy or a fund being managed. · Apply appropriate tools and metrics to assess and quantify climate-related risks. |
4 | Disclosure | · Describe: (i) the board’s structure, (ii) the board’s roles and oversight; and (iii) the management’s roles and responsibilities. · Disclose steps taken to incorporate relevant and material climate-related risks into the investment management process. · Describe processes for identifying, assessing, managing, and monitoring climate-related risks including key tools and metrics used. · Disclose if any climate-related risks have been deemed as too irrelevant to certain types of investment strategies at the entity or fund level. · Adopt proportionate approach and make disclosures to investors in writing through electronic and other means. · Review disclosures at least annually, update disclosures where appropriate and inform investors of any material changes. |
Large Fund Managers
Large fund managers (i.e., with more than HK$8 billion assets under management), shall ensure compliance with two additional requirements described as Enhanced Standards. In addition to the baseline requirements enlisted above, these enhanced standards are:
i) Risk Management; with the key features being:
- implementation plan on scenario analysis in evaluating resilience of investment strategies; and
- assessment of climate-related risks such as portfolio carbon footprints of greenhouse gas emissions.
ii) Additional Disclosures; by:
- maintaining and implementing an engagement policy for climate-related risks; and
- providing carbon footprints of greenhouse gas emissions associated with underlying investments.
Listed Companies
For listed companies on the Hong Kong Exchange, by virtue of Appendix 27 of the Main Board Listing Rules and Appendix 20 of GEM Listing Rules, significant importance is now placed on the leadership responsibilities of board of directors with regards to corporate governance and accountability in ESG matters. An impact of this is that enhanced disclosure requirements come into effect. For example, there are now ‘Comply or Explain’ provisions in the listing rules such that if an issuer does not comply with any of the requirements, it must provide factors it took into consideration to justify its non-compliance. Also, the publication of an ESG report is now mandated to be at the same time as the publication of the company’s annual report. As such, boards are encouraged to adopt international standards such as Taskforce on Climate-related Financial Disclosures (“TCFD“).
In Singapore
The Monetary Authority of Singapore (MAS) is also keeping apace by requiring enhanced standards for compliance from Asset Managers. The MAS December 2020 ‘Guidelines on Environmental Risk Management (Asset Managers)’ outlined 5 key areas that companies need to consider in respect of ESG. These guidelines set out sound environmental risk management protocols for adoption by asset managers.
Scope of Applicability of the Requirements
The guidelines apply to all holders of a Capital Markets Service license for fund management and Real Estate Investment Trust (REIT) Management as well as Registered Fund Management Companies (RFMC) [under paragraph 5(a)(i) of the Second Schedule to the Securities and Futures (Licensing and Conduct of Business) Regulations (Rg.10)].
The MAS recognizes that fund managers would vary in terms of scale, business model and scope. As such, it encourages implementation in a way that is commensurate with the size and nature of their operations.
These requirements are summarized below:
Table 3
S/N | Areas | MAS Requirements |
1 | Governance and Strategy | Board of Directors’ Roles and Responsibilities · Approve environmental risk management framework/policies to assess and manage environmental risk while considering their fiduciary role and legal obligations towards investors/customers. · Set clear roles and responsibilities for the Board and senior management, including personnel and functions responsible for managing and overseeing environmental risk for the assets managed. · Ensure that directors have adequate understanding of environmental risk, and senior management is equipped with appropriate expertise for managing environmental risk. Senior Management Responsibilities · Ensure implementation of an environmental risk management framework/policies, as well as tools and metrics to monitor exposures to environmental risk. · Review on a regular basis the effectiveness of the framework, policies, tools and metrics and making appropriate revisions, taking into account changes in the asset manager’s business, size and complexity as well as risk environment. · Establish an internal escalation process for managing environmental risk and allocate adequate resources for managing environmental risk. |
2 | Research and Portfolio Construction | · Embed relevant environmental risk considerations in research and portfolio construction processes if assessed to be material. · Consider transition and physical risks on individual asset and/or portfolio level and take reference from international standards and frameworks. · Apply risk criteria to identify sectors with higher environmental risk e.g., greenhouse gas emissions, extreme weather deforestation and pollution. · Consider materiality of environmental risk with respect to the different asset classes and include measurement and management of various factors on an aggregate basis. |
3 | Portfolio Risk Management | · Put in place appropriate processes/systems to monitor, assess, and manage the potential and actual impact of environmental risk on individual investments and portfolios on an ongoing basis. · Include short and long-term environmental physical and transitional risk scenarios into its scenario analysis of portfolios for risk management purposes. · Equip staff with adequate expertise to assess, manage and monitor environmental risk in a rigorous, timely and efficient manner. |
4 | Stewardship | · Exercise sound stewardship to help shape the corporate behavior of investee companies positively. · Consider collaborative engagements with other asset managers/investors for efficiency, enhanced influence and legitimacy when engaging investee companies, and to build knowledge and skills. · Consider implementing asset enhancement initiatives, such as putting in place measures to improve energy and water efficiency or waste management or attaining green building certification (for real estate investments). |
5 | Disclosure | · Disclose their approach to managing environmental risk in a manner that is clear and meaningful to existing and potential investors. · Disclosure in accordance with well-regarded international reporting frameworks (such as Taskforce on Climate-related Financial Disclosures). |
Listed Companies
For listed companies on the Singapore Exchange, Rule 711A of the Mainboard Listing Rules mandate that sustainability reports are now to be published within 5 months after the end of the financial year. From 2023 onwards, climate reporting has become mandatory for some prioritized industries, one of which is financial services. According to Rule 711B of the Mainboard Listing Rules, the 6 components which have been mandated to consist part of the sustainability report are:
- Sustainability reporting framework
- Board statement and associated governance structure for sustainability practices
- Targets
- Policies, practices, and performances
- Material ESG factors
- Climate disclosures consistent with TCFD recommendations
Position of Regulators in Hong Kong and Singapore on ESG
Table 4
Key Area | Hong Kong’s SFC | Singapore’s MAS |
Applicability | · All licensed fund managers managing Collective Investment Schemes (CIS) with investment discretion. · Fund managers with climate-related investment mandates including managers who delegate functions to sub-managers. | · All holders of a capital markets services license in respect of fund management (LFMC) and real estate investment trust (REIT). · Fund management companies (RFMC) registered under 5(a)(i) of second schedule to the Securities and Futures Regulations. |
Focus | · Climate Risk | · Environmental Risk |
Risk Channels | · Transitional Risk · Physical Risk
| · Transitional Risk · Physical Risk · Reputational Risk |
Pillars | · Governance · Disclosure · Risk Management · Investment Management
| · Governance and Strategy · Disclosure · Portfolio Risk Management · Research and Portfolio Construction · Stewardship |
Effective Date | · Baseline Requirements – 20th August 2022 · Enhanced Requirements – 20th November 2022 | · June 2022
|
Challenges to ESG Implementation
ESG requirements have become increasingly important for financial institutions worldwide, including those in Hong Kong and Singapore. The following are some of the challenges fund managers and asset managers may face in complying with ESG requirements:
Lack of ESG-Related Regulations:
While Hong Kong and Singapore have made progress in developing regulatory frameworks for ESG reporting and disclosure, there is still a lack of clear regulations for many ESG issues (for example, the ‘Social’ and the ‘Governance’ aspects). This can create uncertainty for financial institutions about how to comply with ESG requirements thereby contributing to the challenge of non-standardization.
Inadequate/Non-Standardized Reporting:
While fund managers in both Hong Kong and Singapore are required to disclose their ESG risks, implementation levels and performance, there are no standard reporting frameworks. This makes it difficult for investors to assess performance across different institutions, and for managers to benchmark their own performance against their peers.
Complex Investment Decision-Making:
Integrating ESG considerations into investment decisions introduces more technicalities into investing than traditional financial analysis. In effect, this could pose a challenge for entities that lack the necessary technical expertise to make informed ESG-integrated investments.
Limited Availability of ESG Data:
The limited availability of reliable and relevant ESG data in some sectors and regions make it difficult for fund managers to accurately assess the ESG risks and opportunities of their investments. This can lead to incorrect estimations of ESG risks and ultimately result in suboptimal investment decisions.
ESG Talent Shortage:
Recruiting personnel with expertise in ESG is proving to be a challenge. On one hand, because such talent is scarce, this often leads to assigning ESG responsibilities to compliance teams. On the other hand, skilled ESG professionals come at a premium cost, creating an additional expense for the fund manager to factor in.
Overall, financial institutions in Hong Kong and Singapore face a range of challenges in complying with ESG requirements, from limited ESG data to the difficulty of integrating ESG considerations into investment decision-making. However, both regulators and institutions are taking steps to address these challenges and are making progress towards more sustainable investment practices
Benefits of ESG to Asset Managers
Improved Risk Management:
Incorporating ESG considerations in investment decision-making can assist fund/asset managers in identifying and managing risks that typical financial analysis may not capture. This can help them mitigate potential risks to their investments and portfolios.
Enhanced Long-term Performance:
Companies with strong ESG frameworks embedded in their operations have been shown to outperform those with weak ESG compliance. By prioritizing ESG considerations in their operations and investment discretion, asset managers can potentially generate better returns in the long term.
Improved Reputation:
ESG compliance can have positive effects on the reputation and brand image of asset managers. This can develop into an additional competitive advantage amongst its peers in attracting potential investors, clients, and business partners.
Attract & Retain Investors:
In recent years, there has been increase in demand for ESG investment products. Asset managers who are ESG-compliant can benefit from this growing market of ESG-conscious investors, which could lead to increased assets under management.
Recommendations
Adopt a Risk-Based Approach:
Fund Managers operating in Hong Kong and Singapore should adopt a risk-based approach of identifying, assessing and understanding the risks they are prone to in lieu of existing regulatory regimes. This would ensure that fund manager’s investment management strategies and processes remain within ESG compliance requirements.
Be Open to Collaboration:
Fund managers should take more collaborative approach in dealing with other FIs, industry associations, and other stakeholders to develop industry-wide ESG standards and guidelines for performance measurement, reporting, etc.
Prioritize ESG Training:
Funds and Asset Management firms should invest in training programs to improve internal capacity and cultivate a talent pipeline on ESG investing. This will ensure that they have the requisite technical abilities to effect integration of ESG factors on their investment decisions.
Enhance Compliance Operations:
It is recommended that institutions maintain a proactive and effective approach to mitigating compliance risks. By enhancing their compliance operations, financial institutions can ensure that they remain in compliance with applicable laws and regulations, which is critical for maintaining the trust of their clients, investors, regulators, and other stakeholders. This could mean engaging qualified compliance and ESG professionals.
These recommendations reflect the growing importance of ESG considerations in the financial industry and the need for fund/asset managers and other financial institutions to play active roles in promoting sustainable finance practices and ESG integration. By adopting these recommendations, the FIs reap multidimensional benefits by being regulatory compliant, protecting the interests of their investors, and promoting a sustainable and resilient financial system.
References:
- Guidelines on Environmental Risk Management for Asset Managers. https://www.mas.gov.sg/regulation/guidelines/guidelines-on-environmental-risk-management-for-asset-managers
- Hong Kong Exchange GEM Listing Rules. https://www.hkex.com.hk/-/media/HKEX-Market/Listing/Rules-and-Guidance/Listing-Rules-Contingency/GEM-Listing-Rules/Appendices/appendix_20.pdf?la=en
- Hong Kong Exchange Mainboard Listing Rules. https://www.hkex.com.hk/-/media/hkex-market/listing/rules-and-guidance/listing-rules-contingency/main-board-listing-rules/appendices/appendix_27
- Mainboard Listing Rules of Singapore. https://rulebook.sgx.com/rulebook/mainboard-rules
- Monetary Authority of Singapore (MAS) Code of Corporate Governance. https://www.mas.gov.sg/regulation/codes/code-of-corporate-governance
- Securities and Futures Commission (SFC). (2021, August 20). Circular to management companies of SFC-authorized unit trusts and mutual funds – ESG funds [Circular letter]. https://apps.sfc.hk/edistributionWeb/gateway/EN/circular/products/product-authorization/doc?refNo=21EC27
- SFC’s FAQs- Application of the climate-related risks requirements under the Fund Manager Code of Conduct. https://www.sfc.hk/en/faqs/intermediaries/supervision/Application-of-the-climate-related-risks-requirements-under-the-Fund-Manager-Code-of-Conduct/Application-of-the-climate-related-risks-requirements-under-the-Fund-Manager-Code-of-Conduct
- SFC’s Fund Manager Code of Conduct. https://www.sfc.hk/-/media/EN/assets/components/codes/files-current/web/codes/fund-manager-code-of-conduct/fund-manager-code-of-conduct.pdf
- United Nations Global Compact. (2005). Who cares wins. United Nations. https://www.unglobalcompact.org/library/3
