PRI proposes ways for closing funding gap in EMs

By Christine Dawson

Principles for Responsible Investment (PRI) has set out how ESG investors can be more effective for sustainable development in emerging markets.

In its paper Closing the funding gap: The case for ESG incorporation and investing with sustainability outcomes in emerging markets, PRI said increased private investment in emerging markets is crucial for mitigating the worst of the climate crisis, yet a number of systemic barriers are holding flows back.

Bridging the gap

Private investors can also be central to helping bridge the $3.7trn funding gap between annual financing needed to meet the UN Sustainable Development Goals by 2030 versus what is currently being invested, PRI argued.

PRI said institutional investors are drawn to invest in emerging markets for reasons such as gaining exposure to growing economies, portfolio diversification and having a real-world impact. The group said despite these draws, investors cite barriers such as risks around political or social instability and corruption – which tend to stem from underlying issues such as inequality, health and safety, decent work, and gender disparities.

Having a greater understanding of the underlying issues, the report said, means investors are “better placed to determine and manage the materiality of those risks in specific emerging markets, rather than relying on common (mis)perceptions to shape their positions.”

A more systemic barrier to flows, PRI stated, is global indices not reflecting the overall size of emerging markets – with their economies making up a small proportion of global public equity indices. According to the report emerging market economies represent 12% of the MSCI’s All Countries World Index despite accounting for 57% of global GDP on a purchasing power parity basis.

Some of the areas where the PRI paper provided guidance for investors were in creating an enabling policy environment for sustainable finance in emerging markets, accessing a supply of investable opportunities, ESG incorporation and active ownership.

An enabling environment

PRI acknowledged there is a very inconsistent picture of sustainable finance policy frameworks from country to country in emerging markets and there is weak coverage of these areas from ESG data providers.

The group suggested institutional investors and multilateral institutions continue engaging with governments and local regulators to develop and implementing sustainable finance policy frameworks.

There could be more collaboration among stakeholders to engage with ESG data providers on improving emerging markets data coverage and methodologies.

In terms of capital market disclosure policies, these could be improved with some collaborative effort from standard setters, institutional investors, corporates and stock exchanges, the report said.

Investable opportunities

As well as a lack of expertise being a barrier for asset owners, PRI found this group also found issues related to liquidity and regulations in emerging markets. The report suggested looking at green or sustainable development bonds and blended finance which could help support key sustainability outcomes.

PRI said investors could look for is the opportunities to get involved in or support asset class-specific activities intended to grow opportunities and capacity in emerging markets.

And finally, PRI noted it would be possible to increase alignment of incentives between donors, development finance institutions and institutional investors in as another way to boost the number of investable opportunities available.

ESG and active ownership

Investing in emerging markets provides the chance to create more real-world impact than investing in many developed markets, PRI said. But, there are cultural and structural differences to acknowledge around the understanding and application of active ownership.

And there may not be sufficient local ESG and impact knowledge and experience – within the investment community or companies.

In light of these challenges, PRI recommended investors could share knowledge of engagement approaches and how to identify critical sustainability issues in local contexts.

It went on to suggest international and local investors could engage collaboratively, share information and develop best practice.

There could, PRI added be stronger partnerships between development finance institutions and local emerging market partners, such as investors, government agencies, regulators, which could serve to provide ongoing technical support on responsible investment.