SUMMARY
In this month’s commentary, Claire Jervis discusses the results of the US election, what Trump’s win could mean for sustainable investing in general and specifically our portfolio.
We have published a Stewardship White Paper, “From Obstacles to Outcomes: Enhancing effectiveness in stewardship and engagement”, outlining the urgency for industry consensus on stewardship and engagement definitions and practices. Read the paper here.
Associate Fund Manager Claire Jervis and Stewardship & Climate Analyst Rachael Monteiro recently provided a webinar update where they discussed the Fund’s current portfolio holdings, the factors influencing recent performance, and some of the market variables the investment team is considering moving forward. A recording is available below for your review. CPD points are applicable for Australian Financial Planners here.
COMMENTARY
Market Review
The MSCI World Index was up 3.8% in October.
October was a volatile month for markets. Growth risks remained the primary concern for investors, despite signs of resilience, particularly in the US economy. Uncertainty was also heightened by the upcoming US election and the potential implications of a policy shift on inflation and interest rates.
US economic data showed encouraging strength, with third-quarter GDP growth at 2.8% quarter-on-quarter (annualised), highlighting that the economy continues to expand above trend. A robust labour market and persistently high core inflation have complicated the outlook for potential interest rate cuts.
In contrast, the European Central Bank cut interest rates by 0.25% to 3.25%, reflecting Europe’s weaker economic momentum, especially in manufacturing, although the services sector continued to show solid demand.
Communication Services, Financials and Energy were the strongest sectors in the global market over the month while Materials and Healthcare were the laggards.
Fund Review
The Fund delivered negative performance over the month, lagging the MSCI World Index.
The Health theme was the largest detractor from returns, with several holdings contributing to the decline. ICON, a leading clinical research organisation, was the worst contributor following a profit warning and guidance reduction. Reduced COVID-related trial activity and budget cuts from two large pharmaceutical clients impacted its outlook. Biotech customers also displayed caution, slowing decision-making and study startups more than anticipated.
On the other hand, Autodesk, within the Resource Efficiency theme, emerged as the fund’s top contributor. As a leader in design software for more resource-efficient products and buildings, Autodesk benefited from broad-based growth across Architecture, Engineering, and Construction (AEC) and manufacturing segments. Following strong quarterly results in September, Autodesk’s share price extended its upward momentum in October.
Outlook
In the short-term, we see a divergence in the operating environments of the sectors in which we invest. Some, like electric vehicles, remain more challenged as they adjust to weaker short-term demand. Others are seeing more promising signs. In the Health theme, for example, we see the inventory destocking process coming to an end as orders show signs of improvement. Finally, there are also several sectors where we are seeing strong positive momentum, such as electrification, environmental consulting and ESG certification.
We are also seeing significant political shifts. In Europe, significant gains for right-wing parties have increased concerns about the future of sustainability initiatives. However, there are reasons for optimism as the results of the UK and French elections suggested that voters haven’t yet given up on climate action. Importantly, all eyes have been looking towards the US election in November.
As in previous quarters, the long-term structural opportunities are being complicated by short-term macro concerns. With declining interest rates, the trend should benefit smaller, growth-oriented impact stocks, although the exact timing remains uncertain.
What a Trump presidency means for sustainable investors
We’ve heard a lot about the ‘Trump Trade’ in the aftermath of the US election. This describes the huge stock market gains experienced by various sectors in the hours and days following the result. It paints a bleak picture: Bitcoin, defense, and private prison firms all soared, while cleaner energy stocks sold off. Is this really what we should expect for the next four years? While it may seem as though the world has just become a more hostile place, we believe the future is still bright for sustainability investors.
Energy is less political than people think
The fourth item on Trump’s campaign manifesto, ‘Agenda 47’, promises to make America the dominant energy producer in the world (by far!).1 The first thing that springs to mind when you read this statement may be ‘Drill Baby, Drill’. Trump is certainly no ally to the climate agenda. He pulled America out of the Paris Agreement during his first term as President and has promised to do it again. However, data shows that the debate of ‘fossil fuels vs cleaner energy’ over the last three US Presidencies hasn’t been a political one at all. Both Republican and Democrat administrations have overseen a surge in oil production, and massive increases in solar energy capacity – as the charts below demonstrate. In fact, if anything Trump’s from 2016-2020 resulted in a massive acceleration in the deployment of solar and wind.
US crude oil production2
US Electricity Grid utility-scale capacity additions3
Market forces ‘Trump’ policy
It is true that a Harris administration would have provided a more stable and supportive policy environment for the cleaner energy sector. However, this doesn’t mean that a Trump presidency signals doom for the climate transition. It just means that the policy environment won’t be as supportive as it might otherwise have been. In reality, decisions about how and where to add energy capacity are made on the basis of economic factors and return on investment calculations. The economic reality is that onshore wind and utility scale solar are still the cheapest forms of energy you can build, as shown in the following graph.
Levelised Cost of Energy Comparison4
Bloomberg New Energy Finance (BNEF) recently conducted a scenario analysis which looked at the future adoption rates of clean technologies. Their ‘Economic Transition’ scenario forecasted future penetration rates for each technology based on economic factors alone. Their ‘Net Zero’ scenario incorporated the potential for policy support to drive penetration rates even higher. They found that, while a supportive policy environment would accelerate the transition, it is not necessary to drive growth. Market forces alone could drive huge growth in cleaner energy technology.
Bloomberg New Energy Finance (BNEF) adoption scenarios5
What this means for our portfolio
Only around 4% of our portfolio is currently held directly in cleaner energy stocks. This is because they tend to be very volatile, and we don’t see the need to allocate a larger portion of our portfolio risk budget to these names. However, we continue to hold another 25% of our portfolio in the ‘Resource Efficiency’ theme. This contains a basket of Industrial businesses that are seeking to improve the way we use energy and other resources. These companies tend to be highly correlated to the energy transition.
We are mindful that a Trump presidency may lead to a surge in American isolationism. For that reason, we are thinking carefully about our companies’ supply chains and geographic exposures, to minimise risks from potential tariffs. However, we don’t anticipate making any major changes to our thematic allocations. We don’t see the need to retreat. We believe the Trump Trade was driven by ‘meme stock’ euphoria. As the world grows accustomed to its new political context, we are confident that this euphoria will give way to economic reality.