The Soapbox Summer Reading List

The holidays are upon us and if you have school-aged kids like us (except Euan who goes when it’s cheap) you will be travelling soon – at peak cost.  But this might cheer you up!

We know that you are all sustainable investing geeks like ourselves, so we have compiled a list of our favourite books from the last year together with a personally selected teaser quote (I know… we’re too good to you).

The first (discovered by Ryan) will get you back in touch with the world outside the office walls. The second (discovered by Jon) is a deep and fascinating history of environmentalism and how it intersects with economic growth. It features two profoundly important men that I had never heard of. The third is probably my personal favourite as it blends two of my main interests; disruptive innovation and sustainability (specifically economic development). The fourth is probably the best pure investing book I have read in the last five years (hopefully you view that as a good thing)! Lastly – and by no means least… well maybe actually least – but very close to our hearts, is a tour de force of sustainable investing philosophy and practice.

 

1) The Nature Fix: Why Nature Makes Us Happier, Healthier, and More Creative by Florence Williams
Quote: “Distilling what I learned, I came up with a kind of ultrasimple coda: Go outside, often, sometimes in wild places. Bring friends or not. Breathe.”

2) The Wizard and the Prophet: Two Remarkable Scientists and Their Dueling Visions to Shape Tomorrow’s World by Charles Mann
Quote:“A prerequisite for a successful scientific career is an enthusiastic willingness to pore through the minutiae of subjects that 99.9 percent of Earth’s population find screamingly dull.”

3) The Prosperity Paradox: How Innovation Can Lift Nations Out of Poverty by Clayton M. Christensen, Efosa Ojomo, & Karen Dillon
Quote: “When innovators create a new market, targeted at a large population that has historically been unable to afford the product—non-consumers—the innovator must hire many more people not only to make the product or service, but also to get it to the new customers.”

4) 7 Powers: The Foundations of Business Strategy by Hamilton Helmer
Quote: “it crystal clear to me that the ascent of great companies is not linear but more a step function. There are critical moments when decisions are made that inexorably shape the company’s future trajectory. To get these crux moves right, you must flexibly adapt your strategy to emerging circumstances. The goal of this book is ambitious: to enable such flexibility by making the discipline of Strategy relevant to you in those high-flux formative moments.”

5) Kames Global Sustainable Equity Impact Report  by us.
Quote: “I believe we are at the intersection of two very powerful supply and demand curves.  Technology led deflation (supply) is converging with the greatest sustainability challenges the human race has ever faced (demand). Capital markets (particularly publically listed companies) can be the bridge between that supply and demand. The demand is unfortunately inevitable, but so is the supply. I am optimistic. It is evident to me that this intersection is driving a wave of positive change in global markets.”

 

Sorry I couldn’t resist the last one …. On the plus side, unlike the others it’s completely free and downloadable on your iPad. We’d be very interested in both your feedback on the books and / or any suggestions that you may have for us?

Have a great holiday when it comes.

About the author

Craig Bonthron is an investment manager in the Equities team, responsible for actively co-managing high conviction global equities portfolios. He focuses on analysing disruptive and sustainable investment trends within the technology, healthcare, industrial and consumer sectors in order to identify high conviction stock specific investment ideas.

He joined us in 2014 from SWIP, where he was an investment director in global equities. Prior to SWIP, he was a portfolio manager at Kleinwort Benson Investors. Craig has a 1st Class honours degree in Building Surveying and an MSc with Distinction in Business Information Technology Systems from Strathclyde Business School. He has 18 years’ industry experience (as at 30 April 2019).

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Soapbox Speaks: Hotel Chocolat podcast

This first in a series of podcasts gives us the opportunity to talk to Angus Thirwell the Co-Founder and Chief Executive of Hotel Chocolat. He discusses the importance of sustainability in their business, and how it is put into practice from the picking of cocoa beans to the attributes they look for in their high street employees.


About the author

Craig Bonthron is an investment manager in the Equities team, responsible for actively co-managing high conviction global equities portfolios. He focuses on analysing disruptive and sustainable investment trends within the technology, healthcare, industrial and consumer sectors in order to identify high conviction stock specific investment ideas.

He joined us in 2014 from SWIP, where he was an investment director in global equities. Prior to SWIP, he was a portfolio manager at Kleinwort Benson Investors. Craig has a 1st Class honours degree in Building Surveying and an MSc with Distinction in Business Information Technology Systems from Strathclyde Business School. He has 18 years’ industry experience.

*As at 30 April 2019.

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Who cares wins?

“Most commonly, new positions open up because of change… new needs emerge as societies evolve…..When such changes happen, new entrants, unencumbered by a long history in the industry, can often more easily perceive the potential for a new way of competing. Unlike incumbents, newcomers can be more flexible because they face no trade-offs with their existing activities.” Michael E. Porter; What is Strategy? Harvard Business Review (Oct-Nov 1996)

Is excluding a company from investment based on what it sells, an arbitrary judgement based on values? Is it purely a principled act separate from investment returns? We think not.

The long-term negative externalities of unsustainable products (such as cancer or deforestation for example) create market frictions that eventually flow back to those that promote or facilitate them.  Where such market frictions exist and incumbents do little to resolve them, innovators and entrepreneurs eventually appear with solutions that remove them.

In resolving a meaningful societal or environmental friction (such as plastic waste for example), entrepreneurs create value for their shareholders. Furthermore, in doing so, these innovators create disruptive frictions for the incumbents. The more unsustainable a product is, the riper it is for disruption and the more aggressive the innovators are likely to be.

Extend this further. Is it time that “traditional” business school-trained investors started giving those who care about these things a bit more credit?  We are used to hearing about the “opportunity costs” of excluding certain sectors; but what about the opportunity cost of investing in these unsustainable areas instead of elsewhere? Like somewhere that is resolving damaging frictions rather than creating them?

Source:factset

For us, the sustainability of a company’s product is directly linked to its strategic positioning.  When we think sustainably, the long-term strategic positioning of a company comes into focus. Companies that sell unsustainable products will inevitably face strategic dilemmas.  As Michael Porter recognised and other leading thinkers have observed, incumbents find it very difficult to reposition or ‘pivot’ themselves strategically.  So as sustainable growth investors, why would we not focus all of our energy searching for the best and most impactful disruptive challengers to invest in?

Clients and regular readers will be familiar with our three dimensions of sustainability framework below. What if we replaced the words sustainable product with ‘strategic positioning’ and the words sustainable practices with ‘operational effectiveness’? To be clear, ‘operational effectiveness’ as described by Porter also directly links to our definition of sustainable practices (i.e. how well a company is run day-to-day). We believe it is a fallacy that you can get one without the other over the long-term.

Being strategically positioned away from areas that sustainable investors typically seek to avoid has provided a performance benefit over the last three and five years. Meanwhile daring disruptive innovators who are mission-driven (i.e. care) are inventing new business models and leveraging the declining costs of technology to deliver positive impact, many creating economic value as they do.  Perhaps caring is the way to win in the long-term?

About the author

Craig Bonthron is an investment manager in the Equities team, responsible for actively co-managing high conviction global equities portfolios. He focuses on analysing disruptive and sustainable investment trends within the technology, healthcare, industrial and consumer sectors in order to identify high conviction stock specific investment ideas.

He joined us in 2014 from SWIP, where he was an investment director in global equities. Prior to SWIP, he was a portfolio manager at Kleinwort Benson Investors. Craig has a 1st Class honours degree in Building Surveying and an MSc with Distinction in Business Information Technology Systems from Strathclyde Business School. He has 18 years’ industry experience.  *As at 30 April 2019.

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Can technology disrupt and democratise drug development?

Pharmaceutical research and development is critical and offers health and hope to millions…. but it’s very expensive. A Deloitte study from 2018 reported that the cost to develop a new drug from discovery to launch ranges from $1bn to $4bn (average about $2.2bn) and this has been rising ahead of inflation for decades.  It also takes between 5 and 10 years to bring a drug to market (average 6.7 years).  This trend of stubborn inflation (or friction) is in sharp contrast to most technological disruption we see today.  Given these high and rising costs, it is easy to understand why pharmaceutical companies are predominantly focussed on generating a return on these investments. It is the economics (i.e. potential number of patients multiplied by the achievable price) and not societal benefit, which are the ultimate determining factor. It’s all about size, scale and pushing prices up. Furthermore, cultural frictions and conflicts of interest clearly arise within the system, thus delaying the development of promising new discoveries.


Source: Deloitte 2018: Measuring the Return from Pharmaceutical Innovation

In short, the barriers to drug development are very high and research and development productivity is low. Navigating your way to and through a phase III trial is a monumental undertaking for any scientist or entrepreneur, so success is highly unpredictable.  It’s a hero or zero binary outcome that even the experts have difficulty predicting.  Factor all this into the context of treating rare diseases (i.e. developing ‘orphan drugs’) and it is also obvious why they receive relatively limited resource. This is probably fair in an economic context, but that’s not much comfort to those who might have been cured.


Source: Deloitte 2018: Measuring the Return from Pharmaceutical Innovation

The appropriate mechanism(s) for encouraging new drug development – whilst also ensuring safety, efficacy and keeping prices low – is fraught with politics, but there are some things that everyone can agree would be good…..

  1. Increase the efficiency of the drug discovery / screening process
  2. Improve data quality & quantity throughout the process to maximise R&D resource allocation
  3. Increase the efficiency of human trials to minimise suffering, reduce time and reduce costs
  4. Improve drug efficacy and reduce side effects via more personalised medicine (without an associated decrease in the returns on investment)

We do not directly invest in any pharma or biotech companies within our representative global sustainable equity strategy, but we do invest in companies that are focussing their efforts on solving at least one of the above problems within the R&D process.

Company Country Kames Sustainability Area of focus Brief description and examples of positive disruptive potential
PeptiDream Japan Improver Drug discovery platform A proprietary drug discovery platform which contains trillions of peptides and allows researchers to screen for new drugs hyper efficiently versus traditional methods. Peptides have relatively high potency, high selectivity and low toxicity versus traditional antibodies. This means a much higher chance of finding efficacious drugs which have less side effects. As a result, peptide drugs have the potential to vastly expand the number of addressable and ‘drugable’ targets, including rare diseases.
Medidata US Leader Drug R&D data analytics platform A software as a services (SAAS) platform specifically developed for the drug R&D process. This mission-driven business was formed specifically to help bio-tech & pharma companies do detailed and dispassionate data analytics on nearly all aspects of a clinical drug trial. This improves resource allocation, increases success rates and drives cost efficiencies. Medidata are also pioneering the concept of “synthetic” trials which could dramatically reduce the required number of human participants needed.
Illumina US Leader Genomics Illumina are the global leader in gene sequencing or ‘genomics’, a rapidly evolving industry at the intersection of biology and technology. Illumina enables researchers to better understand genetic variations and thus unlock potential new treatments. Illumina has driven down the cost (per genome) which we believe has led to an inflection in research activity across a range of unsolved disease classes and under-researched rare diseases.
Icon Ireland (US listed) Improver Drug trial management A clinical research organisation (CRO) used by pharma & biotech industry to accelerate and improve their drug trial process. CRO’s add value by leveraging their experience and data in large scale late stage trials. CRO’s also provide small biotechs with access to this scale, thus meaning small players can hold on to and commercialise their own IP rather than selling out to big Pharma.

Technology-led innovations typically drive up the chances of success whilst also taking cost out of the system but such trends have been very slow to manifest within pharmaceutical R&D. We believe some technologies are now reaching tipping points that could provide a step change in productivity across multiple areas in this R&D process. This would be a win / win for everyone, including – we believe – the shareholders of companies who enable such positive advances.

Source: Illumina, JP Morgan healthcare conference presentation, January 2019

About the author

Craig Bonthron is an investment manager in the Equities team, responsible for actively co-managing high conviction global equities portfolios. He focuses on analysing disruptive and sustainable investment trends within the technology, healthcare, industrial and consumer sectors in order to identify high conviction stock specific investment ideas. He joined us in 2014 from SWIP, where he was an investment director in global equities. Prior to SWIP, he was a portfolio manager at Kleinwort Benson Investors. Craig has a 1st Class honours degree in Building Surveying and an MSc with Distinction in Business Information Technology Systems from Strathclyde Business School. He has 18 years’ industry experience. (As at 30 April 2019).

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Does Sustainable Growth Drive You Crazy?

“Being right means being non-consensus at the time of investment. In sort of practical terms, non-consensus translates to crazy”  Alex Danco – Scarcity, Abundance and Bubbles [Invest like the Best, Episode 121]

Show the average investor the chart above, and there’s a good chance they’d roll their eyes. We’re taught to be cynical of such outlandish forecasts.  We’re constantly reminded of past bubbles and the naïve market behaviour that they imbue.  The pithy wisdom of legendary investors like Warren Buffet is usually translated to the mantra: invest in established quality companies and sectors at a discount, anything else is …. Crazy!

Dynamic power (getting there) is completely different from static power (being there), but the two are often conflatedThe key to strategy is identifying emerging scarcity. Scarcity is where innovation can create power”  -Hamilton Helmer, 7 Powers: The Foundations of Business Strategy

Helmer is a highly successful investor and strategist. Here he’s saying that identifying emerging competitive advantages requires a different approach to identifying established competitive advantages. A lot of investment value can be captured when evidence of advantage is just beginning to emerge.  This often arises around new innovation (technology and / or business models) which addresses an emerging scarcity.

In short, we should not measure the rebel on the same metrics we measure the Emperor.  The rebel won’t have a castle, but might have a new flying machine and a novel strategy for sacking the Emperor’s. The table below shows that some of the biggest rebel winners of the last 10 years looked very expensive on traditional metrics in 2008.

Best and worst performing stocks 2008-2018


Source: Factset. 8 Best performing and 8 worst performing stocks (continuously listed) within the MSCI AC World Index between the end of 2008 and the end of 2018.

So what’s my point? My point is that I believe investing in higher multiple growth stocks can be counter-intuitively contrarian.  It is psychologically challenging for the following reasons:

  1. It requires volatility tolerance: By definition, more of the value of a fast growing business will be in the long-term future. Thus, in the short-term share prices can be very sensitive (i.e. volatile) to seemingly slight changes in long-term growth expectations and / or the assumed cost of capital.
  2. It requires a thick skin: Being ‘crazy’ can draw a crowd of not so friendly onlookers. Sometimes they throw stuff.
  3. It requires being wrong… often: You strike out more often if you always swing for the fences, but this approach increases your chances of hitting home runs. This is called the “Babe Ruth Effect”.

Focusing on the last point, according to Kahneman and Tversky, the pain of loss is about 2.5 times as potent as the pleasure of an equivalent gain. As a result, people are a lot happier when they are frequently right. But being right more often does not necessarily determine investment fund performance. Weird I know, but more often a few stocks going up or down dramatically will have a greater impact. In equity markets, the distribution of returns is skewed positively towards a small number of stocks that deliver extreme upside.

Hendrik (Hank) Bessembinder, Do Stocks Outperform Treasury Bills? (May 2018)

Great.. but what does all this have to do with sustainability? Well nothing… unless……. Unless, sustainability trends are a form of disruptive change?

In the early 1900’s humans were encumbered with very high transport costs and a terrible horse manure problem. These frictions were resolved by relatively cheap oil, the combustion engine and Henry Ford.  It took a while to become clear (not as long as some like to pretend), but these solutions created clear frictions of their own…..

In my view, investors who have a sustainability mind-set combined with a disruptive growth mind-set will increase their chances of gaining exposure to the extreme positive returns of the future. The trade-off is that we will strike out more often, which will make us feel bad in the short-term.

Warren Buffet is a legend but we deliberately take a different approach. He backs the Emperors to stay in power, while we invest in the rebels that try to profit from their emerging weaknesses.  I’m not saying Mr Buffet is wrong….. he’s just a different kind of crazy.

“Our approach is very much profiting from lack of change rather than from change.” Warren Buffet

 

 

About the author

Craig Bonthron is an investment manager in the Equities team, responsible for actively co-managing high conviction global equities portfolios. He focuses on analysing disruptive and sustainable investment trends within the technology, healthcare, industrial and consumer sectors in order to identify high conviction stock specific investment ideas. He joined us in 2014 from SWIP, where he was an investment director in global equities. Prior to SWIP, he was a portfolio manager at Kleinwort Benson Investors. Craig has a 1st Class honours degree in Building Surveying and an MSc with Distinction in Business Information Technology Systems from Strathclyde Business School. He has 18 years’ industry experience. (As at 30 April 2019).

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