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Sustainable Investing

How Stock Markets Around the World Stack Up on ESG Practices and Carbon Risk

The U.S. scores well on Carbon Metrics, but its overall ranking is dragged down by big names facing high ESG risks.

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Amid the market turmoil brought about by the outbreak of the coronavirus pandemic, funds focused on buying stocks that score well on environmental, social, and governance-related metrics proved to be a safer harbor for investors. More recently, Russia’s invasion of Ukraine has provoked much discussion on sustainable investing, especially around values-based exclusions.

These two major events gave a further boost to a trend that had already been going on for some time: More end investors want their investments to make a difference and support the view that ESG risk is material. Sustainable investing and the consideration of environmental, social, and governance factors have now become part of the investment mainstream.

So, from a geographical point of view, how do countries around the world compare on this front? According to the latest edition of the Morningstar Sustainability Atlas, European countries lead the pack in ESG practices. These nations—particularly those in the north—have always been ahead of the curve on ESG, but a few other countries also feature exceptionally strong sustainability profiles. Financial advisors and asset managers can use this data to identify countries with the greatest ESG investment opportunities and most significant risks.

The Morningstar Sustainability Atlas uses the constituents of Morningstar country indexes to examine the sustainability profiles of 48 country-specific equity markets. The company-level scores are sourced from Sustainalytics, which is a Morningstar company whose metrics also power the Morningstar Sustainability Rating for funds.

Here, we explore some key findings about the ESG practices of countries around the world.

Morningstar Portfolio Sustainability Scores: The Netherlands Maintains Its Spot at the Top, Hong Kong Joins the Podium

For the fourth consecutive year, the Netherlands continues to have the world’s most sustainable stock market, thanks to holdings like ASML Holding ASML, the biggest constituent of the benchmark. ASML is an ESG leader (especially in the corporate governance and human capital fields) among semiconductor equipment producers.

Finland follows, thanks to big companies like Nokia NOK, a leader within the global technology hardware industry, and Sampo SAXPF, another important name in the insurance services’ sector. Both of these companies hold a Low ESG Risk Rating.

Hong Kong moved up a spot from last year, overtaking France for third place in the rankings. Hong Kong-based insurance company AIA Group AAGIY—by far the biggest name within the benchmark—combines low risk exposure with strong management.

Also noteworthy is Taiwan, which rebounded from 11th place in 2022 to fifth place in 2023. This move is largely owed to the impact of Taiwan Semiconductor Manufacturing Company TSM, a global ESG leader.

Map showing the Portfolio Sustainability Scores of 48 country-specific equity markets.

The United States ranks 16th out of 48, as it did in 2022. On one hand, companies like Apple AAPL, Nvidia NVDA, UnitedHealth Group UNH, and Visa V are considered leaders from a sustainability point of view; on the other hand, the ESG Risk Ratings for big names such as AMZN, Meta META, and Exxon Mobil XOM are classified as High. This is attributable in most cases to the companies’ involvement in controversies.

For example, Amazon has faced employee strikes and allegations of poor working conditions in various jurisdictions, including in Germany and France, and it has been involved in a variety of controversies, most notably the formal antitrust investigation launched by the European Commission in July 2019, over the company’s dual role as a retailer and marketplace. In 2020, the company faced a lot of scrutiny on how it addressed the early stages of the coronavirus pandemic, particularly toward its warehouse employees.

Another important name of the U.S. benchmark, Tesla TSLA, shows medium ESG risk and a “significant” level of controversy. Tesla’s management of human capital and product governance risks reveals significant shortcomings, according to Sustainalytics. Tesla has been involved in repeated incidents related to the timely delivery of its cars, the safety of its Autopilot technology, and the management of its workforce. Moreover, tweets from CEO Elon Musk reportedly to affect the share price remain a corporate governance concern.

China, for its part, falls to the bottom of the fourth quintile, ranking 39th out of the 48 markets. This is nine positions down from 2021. Internet giant Tencent TCEHY is the biggest name within the index, followed by Alibaba BABA. Both companies hold a Medium ESG Risk Rating and have a concerning involvement in controversies. Two important names within the Chinese index, Industrial and Commercial Bank of China IDCBF and Bank of China BACHY, hold an ESG Risk Rating classified as High.

Countries With the Lowest Carbon Risk: The Netherlands, Switzerland, Denmark, United States

Another important consideration is climate change. Despite the progress made at COP27—the 2022 United Nations Climate Change Conference—developed nations are still failing to meet their $100 billion-per-year climate financing commitment made in 2009.

Mark Carney, special U.N. envoy for climate action and former Bank of England governor, calls the move to net zero the “greatest commercial opportunity of our time.” Yet that transition also means investors must take steps to protect their portfolios from climate risks: Some investments will be disadvantaged in the transition to net zero, while others will find themselves vulnerable to physical risks from extreme events caused by climate change.

Indeed, climate change might threaten companies’ physical assets or business models. They may be affected by policy or regulation aimed at lowering greenhouse gas emissions, their fossil fuel assets may be stranded, or changing popular perception may damage their brands. We use the Morningstar Portfolio Carbon Risk Score to assess the degree to which corporate value is at risk from the transition to a low-carbon economy.

Map showing the carbon risk scores of 48 country-specific equity markets.

Northern European markets like the Netherlands, Switzerland, Denmark, Belgium, Sweden, and Germany carry the lowest levels of carbon risk. The U.S. also scores very well, ranking eighth out of 48. A low level of the American stock market value is at risk from the transition to a low-carbon economy because of its technology and healthcare tilt and minimal exposure to energy and utilities. A notable exception is Berkshire Hathaway BRK.A, which shows a Carbon Risk classified as High.

According to Sustainalytics, considering the breakdown of its investees and its size, Berkshire has significantly higher exposure to risks around ESG-integration processes and responsible investing practices compared with its other holding peers. In addition, through its shareholdings, Berkshire is also indirectly exposed to ESG risks in various businesses, particularly in the financial, consumer goods, energy, and industrials sectors.

Hong Kong, one of the most carbon-intensive stock markets, shows a Portfolio Carbon Risk Score of Low, landing in the first quintile. Big companies and significant carbon emitters like industrial conglomerate CK Hutchison Holdings CKHUF, utilities name CLP Holdings CLPHF, and Power Assets Holdings HGKGF, as well as Galaxy Entertainment Group GXYYY, are classified by Sustainalytics as carrying Carbon Risk Ratings of Medium, which means that, even though they are naturally exposed to high carbon risk, they are managing such risk through suitable policies.

On the flip side is Pakistan, with nearly 60% of its market cap in energy, utilities, and basic-materials stocks. It consequently has the world’s highest Portfolio Carbon Risk Score. Also carrying significant Portfolio Carbon Risk Scores are energy-heavy markets Saudi Arabia, Czech Republic, and Qatar.

Important Note: In light of the Russian invasion of Ukraine and the resulting sanctions issued by the U.S., European Union, and United Kingdom, Morningstar moved the Russia equity market from emerging-markets status to unclassified. This took effect at the rebalance after the market close on March 18, 2022, when all Russia equity securities, including ADRs and GDRs, were removed from the Morningstar Global Markets and Morningstar Target Market Exposure index families at a price of zero. This reflects the fact that many investors outside of Russia can no longer trade these securities. Consequently, the Russian equity market was not taken into consideration for this analysis.

The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.

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