ESG investments gain momentum in Middle East

Investments adhering to environmental, social and governance (ESG) criteria are capturing increasing interest in the Middle East. A 2020 survey carried out by multinational bank HSBC revealed that 41% of regional investors wished to adopt an effective ESG investment policy. A May 2022 PWC report confirmed this trend, adding that Middle Eastern companies' top three sustainability priorities are diversity and equality, climate change and safety.

The region has long lagged in ESG investments. For example, in the Gulf Cooperation Council (GCC) countries, an economic model highly reliant on non-renewable energy exports has limited interest in ESG practices, especially environmental ones. However, in recent years, Saudi Arabia and the United Arab Emirates have been leading the way in matters of sustainable development, devising national plans to overcome hydrocarbons dependence, increase the share of renewable resources in their energy mix and boost the private sector.

Alena Dique is the founder of ESG Insights Middle East, a regional ESG databank. She told Al-Monitor, "ESG investments in the Middle East have boomed since the pandemic, and this trend will probably remain popular until 2030. Social investing is largely pushed forward by investors who want long-lasting, sustainable contributions left behind as their legacy. At the same time, environmental investments present a huge opportunity for the Middle East, especially with the region hosting both COP27 and 28. However, there is still a long way to go regarding the governance aspect, even though the Middle East is no stranger to responsible investing, ethical practices or sharia-compliant strategies."

In addition to the ethical aspects, many Middle Eastern investors consider sustainable assets attractive from an economic perspective. A recent GIB asset management report highlights that ESG-compliant investments generally have higher long-term profits. "This is difficult to evaluate as ESG is both qualitative and quantitative. We need to look at how investors choose to assess ESG risk and what areas they look to emphasize. ESG rating might not evaluate all companies the same way or give a true depiction of return on investment all the time. Still, there is no denying that sustainability evaluation exists and can impact the flow of investments," Dique added.

The increasing interest in ESGs — both at the private and the government levels — has also introduced changes in Middle Eastern business practices. "In the region, ESG strategy has been embraced as a mechanism to drive companies to demonstrate their sustainability credentials alongside their global peers," said Dique. "New trends, such as creating ESG positions or adopting green policies, show a growing interest in sustainability issues. Regional governments are hands-on with the transition of energy and natural resources, human capital and economic development and now have taken ESG on board too. Change is challenging, but transition takes time — and that can be monitored and measured."

The Dubai Investment Fund, one of the largest independent investment funds worldwide in terms of assets under management, recently announced the creation of an ESG investment department aiming to track the local and global market and discover the most profitable sustainability assets. ESGs are also gaining momentum in other corners of the GCC, such as Kuwait. In recent months, the National Bank of Kuwait adopted a sustainable financing framework to support the national plan to tackle climate change and integrate ESG standards in all the bank's operations.

Despite the growing enthusiasm, finance experts argue that ESG funds worldwide have a poor track record in financial performance. Corporate executives should naturally pay attention to employee, community and environmental concerns, but setting ESG targets on this basis may distort the decision-making process and force managers to focus on sustainability issues beyond their relevance for long-term shareholders' interests.

Even from a regional perspective, some investors are still skeptical about the potential of ESGs. "The Gulf was rather late adopting ESG initiatives, which isn't necessarily bad, as it is a rather ambiguous and subjective term. The current energy crisis demonstrates what can happen when an initially reasonable idea is taken too far. In this case, the overall shortfall in hydrocarbon capital expenditure can become counterproductive in the long run," said Ali Al-Salim, Co-Founder at Arkan Partners, an independent investment consulting firm based in the Gulf.

Experts and entrepreneurs also criticize ESG investment because of the lack of clear measures to define what is sustainable and what is not. They claim that ESGs have an ambiguous — and problematic — definition leading to various regulatory approaches in different jurisdictions, which means that there is no standard legal framework to deal with them. “A dose of common sense and a holistic approach to ESG investing — thinking about unintended consequences — is critical for regional investors to consider," Al-Salim concluded.