Ongoing geopolitical tensions weighed on market sentiment and dampened risk appetite, with the MSCI World Index falling -1.0%. Central bankers redoubled their messaging that elevated interest rates are likely to remain higher for longer, leading to a continued sell-off in renewable energy stocks due to fears of lower returns for project developers. Mid-cap stocks, which the Fund is exposed to, also detracted from performance.

Historically, high oil prices have functioned as powerful drivers for an accelerated shift towards renewable energy as policymakers face mounting pressure to provide their constituents with secure and affordable energy supplies, and consumers and companies seek to explore cheaper and more sustainable alternatives. In this month’s commentary, Ty Lee explores why this has not occurred following the outbreak of conflict in the Middle East as well as the longer-term prospects for clean energy technologies.

Top Holdings (alphabetically)

Agilent Technologies Inc

United States

Health Care

Agilent Technologies is a specialist in the development and manufacture of bio-analytics for the life sciences and chemical analysis industries. The mission is to advance quality of life. Within healthcare, its analytical instruments are used in the development and testing of healthcare products. Agilent also has a chemical analysis business which makes equipment for monitoring levels of pollutants in the ambient environment and or measuring contaminants in food and the human body.

ANSYS Inc

United States

Information Technology

Ansys is a market leader in multiphysics engineering simulation software for product design and optimisation. The company follows a strategy of Pervasive Engineering Simulation to enable innovation. Its software accelerates product time to market, improves engineering and optimises product quality and safety for a variety of products including fuel efficient cars and planes, wind turbines as well as medical technology and consumer products.

Autodesk Inc

United States

Information Technology

Autodesk is a global leader in 3D design and engineering software and services. Its products are used by architects, engineers and designers to design, develop and manufacture and operate a vast range of products, buildings and services. Autodesk tools are a critical component in the design and operation of more resource efficient products and buildings. They can deliver significant resource savings, due to their impressive capabilities and critical position in design process. The product brands include Autodesk 360 cloud services, AutoCAD civil 3D and LT, 3Ds Max, Maya, and Revit.

CSL Ltd

Australia

Health Care

CSL develops medical products for serious and life-threatening diseases. Its core business is as a provider of human blood plasma-derived products to treat bleeding disorders, rare and serious infections and autoimmune diseases. CSL also manufactures vaccines and related products, including for flu and cervical cancer, as well as other products that speed up recovery times for patients that have undergone heart surgery, organ transplants and burns. The company provides these solutions across North America, Europe, Asia, Australia as well as other parts of the world.

ICON PLC

United States

Health Care

ICON is a clinical research organisation (CRO) which provides outsourced development services on a global basis to the pharmaceutical, biotechnology and medical device industries. The mission is to accelerate the development of drugs and devices that save lives and improve the quality of life. ICON specialises in the strategic development, management and analysis of programmes to support all stages of the of the clinical development process.

Linde PLC

United States

Materials

Linde Plc produces and distributes industrial gases. The company operates globally supplying oxygen, hydrogen and other gases to a very wide range of downstream markets including into manufacturing industries, petrochemical and electronics industries. The gases are used in a variety of applications including in making manufacturing processes more efficient and in reducing harmful emissions. The company is establishing a strong presence in the green hydrogen market and also sells oxygen and other gases into the healthcare sector.

MSA Safety Inc

United States

Industrials

Founded in Pittsburgh in 1914, MSA originally stood for Mine Safety Appliances. This was changed in 2014 to MSA Safety to reflect the broader range of products the company has developed. Today, MSA still manufactures products such as fixed gas and flame detection systems which are used across industry. They are also a leading manufacturer of self-contained breathing apparatus and fire helmets for firefighters as well as fall protection equipment for working at height.

STERIS PLC

United States

Health Care

Steris provides a variety of products and services to the healthcare industry including specifically to hospitals, medical device manufacturers, pharmaceutical and biotechnology businesses as well as for food safety and industrial markets. The main areas of activity are in providing hygiene, sterilisation and anti-microbial treatment services to these end markets in order to ensure a safe and hygienic operating environment.

Thermo Fisher Scientific Inc

United States

Health Care

Thermo Fisher Scientific is one of the largest suppliers of analytical instrument, equipment, consumables and software for healthcare and environmental research, analysis, discovery and diagnostics. The company offers a very wide range of products and services including the equipment needed to analyse samples as well as the variety of containers and other consumables needed to handle them.

Trane Technologies PLC

United States

Industrials

Trane is a world leader in air conditioning systems and services. The company serves engineers, contractors and business owners across an array of markets including education, healthcare, government and manufacturing. It also provides climate-controlled transport solutions to the food and medical industries. It also has an offering in the heat pump space which brings a 300% efficiency gain compared with the system it would replace.

Market Review

October was another tough month for equities and bonds, with the MSCI World Index falling -1.0%. Central bankers redoubled their messaging that elevated interest rates are likely to remain higher for longer. The US Federal Reserve held interest rates at their current level while sticking to its ‘hawkish’ tone in its November meeting.  The European Central Bank (ECB) decided to keep interest rates unchanged as the economic outlook in the eurozone began to show signs of weakness.

Ongoing geopolitical tensions with the Israel-Hamas conflict weighed on market sentiment and dampened risk appetite. The eurozone composite purchasing managers’ index (PMI) fell to 46.5 in October (indicating an economic contraction), while bank surveys from the ECB also showed a contraction in the supply of credit to households and businesses in Q3.

Renewable energy stocks continued to sell off during the month, with higher interest rates fuelling fears of lower returns for project developers.  Higher prices for materials also continue to weigh on the sector.

In the global equity market, Utilities was the best-performing sector over the month while Consumer Discretionary was the weakest. Small and mid-cap stocks underperformed large caps.

Fund Review

The Fund delivered a negative return during the month with the Fund’s mid-cap exposure continuing to detract from performance.

The largest negative contribution came from the Health theme as holdings including Lonza performed particularly poorly. Lonza was impacted negatively by a number of events. First, on 18 September, its CEO stepped down unexpectedly. It then held its Capital Markets Day a month later where it disappointed by scaling back its mid-term profitability guidance.

The Resource Efficiency theme also detracted as holdings including semiconductor maker Silicon Labs were weak. Semiconductor stocks have come under pressure due to concerns about slowing end markets, particularly in consumer and industrial segments. One of the company’s main competitors in Bluetooth technology issued a profit warning during the quarter, and Silicon Lab’s own guidance disappointed after quarter-end.

Additional negative contributions came from Cleaner Energy, namely SolarEdge. The company issued very disappointing results and guidance, due to a rapid decline in European demand which was much more severe than anticipated.

In these cases, we believe that share price reactions have been extreme. These now price-in exceptionally bearish scenarios that do not, in our view, reflect the long-term growth opportunity of these markets, nor the strong competitive positions these businesses enjoy.

The largest positive contributor was Linde within the Environmental Services theme. The company reported earnings that exceeded analysts’ expectations as it continues to demonstrate significant pricing power amid an inflationary environment.

Outlook

The outlook remains mixed. The US economy has remained remarkably resilient but there have been signs of weakness in Europe and China has been suffering from weak domestic demand as well as slowing exports. Globally, export growth has been impacted by a slowdown in manufacturing industries, leading the World Trade Organisation to halve its full-year forecasts recently.

Labour markets have held up well as worker shortages have kept wages high and unemployment low. However, there are emerging risks to growth in the US including the recent auto strikes; rising oil prices; dwindling pandemic savings; the rising burden of auto loan repayments; and the resumption of student loan repayments after a three-year freeze.

Overall, there remain several headwinds to the economy in the near term. We continue to believe that the diversification and the quality of the portfolio should provide some resilience. In the medium- to long-term, we have the conviction that the sustainable-led growth drivers and competitive advantages of the companies we invest in put the portfolio in a good position to deliver attractive investment returns.

The impact of conflict in the Middle East on clean energy transition

War in the Middle East has sent shockwaves around the world. The scale of the human tragedy and the complexity of the geopolitical issues are hard to exaggerate, and we are not going to attempt to address them here. If the conflict spreads through the region, we could see a surge in oil prices which would lead to broader ramifications including the intensification of food insecurity across the world, as cautioned recently by the World Bank. There are also far-reaching implications for the ongoing global transition towards clean energy.

Oil prices vs renewable energy installation

Historically, periods of high oil prices have functioned as powerful drivers for an accelerated shift towards renewable energy. As the cost of fossil fuels rises, policymakers face mounting pressure to provide their constituents with secure and affordable energy supplies.  Meanwhile, consumers and companies seek to explore cheaper and more sustainable alternatives. We have observed this pattern before, most recently and notably following the Russian invasion of Ukraine. This has triggered a significant investment in renewable energy infrastructure. There was also a surge in demand for heat pumps and electric vehicles as consumers worried about their rising energy bills.

Oil Prices vs Annual Financial Commitments in Renewable Energy

Recent weakness in clean energy stocks

For these reasons, the current Middle East conflict should serve as a strong motivator for individuals and businesses to invest in renewable technologies. Paradoxically, it seems not to have had this effect. Several short-term factors contribute to this apparent contradiction.

Firstly, higher interest rates, as a result of persistent inflation, have translated into higher financing costs for renewable energy projects. Residential solar installations, heavily reliant on loans for funding, have become less appealing to homeowners as interest rates rise. Having seen dramatic growth in 2022, the market has rapidly shifted direction, wrong-footing many companies involved in the sector. SolarEdge, for example, a leading supplier of components used in solar systems, has been impacted by weakening consumer demand.

Utility-scale renewable projects face similar pressures, with higher interest rates driving up the cost of capital. Utility renewable developers potentially can offset these impacts by charging higher prices for their power. More challenging though are the lingering supply chain issues which continue to hamper the development of the wind energy sector. Orsted, a prominent offshore wind farm developer, recently cancelled two US projects due to higher interest rates, supply chain disruptions and escalating costs. In the UK, Swedish developer Vattenfall also halted its offshore wind project in the North Sea due to rising costs. These events have cast a shadow over the entire wind sector.

Long-term opportunities in energy transition

Amid these short-term challenges, it is imperative to maintain a long-term perspective when assessing the prospects of renewable energy. The latest report from the International Energy Agency (IEA) underlines that the economic case for mature clean energy technologies remains strong. Utility-scale solar PV and onshore wind are the cheapest options for new electricity generation in a significant majority of countries worldwide.

Promisingly, we are witnessing favourable policy changes which are having a positive impact on the energy transition. In the US, the Inflation Reduction Act (IRA) is propelling the adoption of electric vehicles (EVs). This has led to a remarkable increase in the IEA’s projection for electric vehicle adoption. Just two years ago the forecast was for 12% of new vehicles sales in the US to be EVs by 2030. The most recent forecast published earlier this year is for an impressive 50% of new vehicles to be EVs in 2030. The IRA’s generous tax credits for renewable energy also led to strong demand for US-produced solar panels, significantly benefiting our holding First Solar. Its manufacturing capacity is fully booked for the next 3 to 4 years.

Electric car sales in the Stated Policies Scenario, 2015-2030

Solar PV capacity additions in the Stated Policies Scenario, 2015-2030

In Europe, the European Commission launched its Wind Power Action Plan last month with the aim of accelerating wind power deployment through faster permitting, improved auction design and enhanced access to finance. These government policies and incentives can play a pivotal role in advancing the transition to renewable energy, even in the face of short-term challenges.

In conclusion, we believe the setbacks faced by the clean energy sector, including high-interest rates, supply chain difficulties and mounting costs, are temporary challenges. The Stated Policies Scenario from the IEA suggests a stronger clean energy outlook based on the latest supportive policies. With a solid economic case, the long-term prospects for clean energy technologies remain extremely bright.