ESG investment in Japan has rapidly expanded since 2015 when Japan’s Government Pension Investment Fund (GPIF) signed the Principles for Responsible Investment (PRI).  By 2018, it had grown 300% annually since 2015.

Japanese ESG investment strategies differ somewhat from those of other developed countries, which, I would say, is one reason Japan was slow in embracing ESG investment.  If one were to rank ESG investment worldwide by strategy, the most common would be "negative screening".  In other words, the most frequently applied strategy in Europe and the US is to exclude companies or industries that do not comply with specific pre-set social or environmental criteria.  Negative screening could be a relatively easy entry point for ESG investment, but it is notably rare in Japan.  That sort of divestment culture would seem not to sit well with Japanese investors.

Instead, most Japanese institutional investors prefer to approach ESG investment by integrating ESG factors into the investment process, or engaging with companies to achieve ESG goals.  The domination of these two strategies among ESG investment is quite unique to Japan.  ESG integration and engagement tend to have a more positive association, which is likely favored by Japanese institutional investors.  Integration embeds ESG factors into the assessment of corporate value, and engagement promotes constructive dialogue based on ESG factors to enhance corporate value, and engagement promotes constructive dialogue based on ESG factors to enhance corporate value.  Integration and engagement are essential to fulfilling the fiduciary duty in ESG investment but often entail very challenging tasks.  They require a deep understanding of investee companies and an in-depth knowledge of their ESG issues.  Solving ESG issues can improve corporate value of an investee company.  But actively engaging with companies to enhance corporate value takes more time than merely omitting those associated with a certain business or product.  In my view, this is why ESG investment required more time to take root in Japan.

With the enactment and subsequent revisions of the Japan’s Stewardship Code and Corporate Governance Code, the Financial Services Agency of Japan (JFSA) has been driving corporate government reform in Japan.  At the same time, investment chain reform is taken in parallel with corporate governance reform.  The investment chain consists of asset owners, asset managers, and investee companies.  Reforming the investment chain means encouraging and facilitating constructive dialogue among them, which leads to enhanced corporate value, and which ultimately creates a virtuous circle for the entire economy.  In this context, engagement is considered the key to enhance corporate value.  This year marks the 7^th year since the first enactment of Japan’s Stewardship Code in 2014.  It is no coincidence that we now find strong growth in ESG investment in Japan through increased ESG integration and ESG-themed engagement. 

JFSA released the 2^nd revision of the Stewardship Code in March of this year.  With this revision, the Code is extended to cover not only listed stocks, but all asset classes, insofar as far as stewardship activities are relevant.  The revision also clarified that consideration of sustainability, including ESG factors, is an integral part of stewardship responsibilities under the Code.  In light of these changes, I anticipate 2020 will be a pivotal year for Japanese asset owners, particularly for pension funds, to further identify ESG factors to enhance corporate value of investee companies and accelerate their engagement activities for this purpose.