What’s the catch?

During lockdown I binge watched almost the entire back catalogue of Simon Reeve’s wonderful travel documentaries (as well as some much trashier titles). In these programmes, he covers what he calls the “light and the shade” of the places he visits, often focusing on how sustainability issues are impacting them. One recurring topic was man’s uneasy relationship with the world’s oceans and this got me doing some more research.

We could devote a whole series of articles to this topic and still not come close to covering all of the relevant points, so let’s restrict ourselves some of the huge challenges with commercial fishing. Firstly, some sobering facts.

  • Around 30% of the world’s commercial fish stocks are overfished (in some regions it’s much more)
  • Whilst obviously hard to measure, illegal and unregulated fishing is thought to account for anything between 12 – 30% of worldwide fishing

Global fish stocks 1974 – 2017

Overfishing has been driven in part by increasing global populations and per capita consumption of fish. It has also been exacerbated by subsidies, an emotive topic for any industry but one that is widely recognised as having distorted the fishing industry and led to significant overcapacity. It’s estimated that the global fishing fleet is 2.5 times the size it needs to be to satisfy demand.

Bycatch, the incidental capture of non-targeted species, is a linked issue. Methods like trawling, gillnets and longlining are indiscriminate and are the single largest cause of mortality for many endangered species of turtles, sharks and dolphins. The environmental impact of this goes beyond the direct impact on a given species and extends to the whole marine ecosystem, which risks being irreparably altered by the removal of key links in the food chain.

But solving the issue isn’t as simple as just saying “don’t eat fish”. Fish provides an important source of protein for billions of people worldwide and there are tens of millions whose livelihoods and local communities rely on fishing. Environmental and socioeconomic issues are inextricably linked, as is so often the case.

One of the most serious results of overfishing and bycatch is that the yields on fishing activities have been deteriorating over the past couple of decades. This demonstrates the circular nature of the problem: the people most impacted by overfishing are fishermen themselves. This causes particularly acute issues in developing countries, where fishing is often vital for feeding local communities and the only way to make a living for many people. Perhaps one of the most extreme examples of the negative impact is the prevalence of piracy around the horn of Africa, where many pirates attacking international shipping are former fishermen who can no longer make a living from catching fish.

So, what of solutions? Well, we need to make significant changes now and these need to address both the environmental and the socioeconomic impacts. Firstly, alternative methods of fishing need to be promoted. There are cheap and simple changes to fishing equipment that can be made which drastically reduce bycatch without reducing the ability to catch the targeted species. Second, eradicating certain forms of subsidies that contribute to overcapacity is also a must and has been called out by the UN in their SDGs. Finally, marine protected areas can also be a powerful solution and, importantly, with the right engagement and inclusion of local communities, can help provide an economic alternative to fishing.

The key to all of this is having a more globally integrated and adequately enforced policy on fisheries management, rather than disparate country-specific policies. This is obviously easier said than done but when framed in the context of an FAO and World Bank report that estimates poor fisheries management wipes $50 billion per annum off the value of global fisheries, it is clearly something that is essential and that would be of benefit to both the environment and those who depend on it for their livelihoods.

About the author

Iain Snedden is an investment specialist in the equities team. He has responsibility for representing the firm’s equity capabilities both within and out with the firm, with a particular focus on our suite of global equity products. This involves ensuring colleagues and clients are kept up to date on developments within the funds and the wider market. Iain joined us in 2015 to work in the Client Management team with responsibility for a portfolio of UK-based institutional clients. Prior to that, he worked at Baillie Gifford and held roles within the client accounting and business risk functions. Iain graduated from University of Edinburgh with a first class honours degree in Accounting and Business Studies. He has 9 years’ industry experience.

*As at 30 November 2019.

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Cash for clunkers v2.0

“History doesn’t repeat itself but it often rhymes” – Mark Twain

Does anyone remember the cash for clunkers scheme?  If you weren’t around at the time, this was the collective nickname for car scrappage schemes employed by a number of countries to stimulate growth in the aftermath of the global financial crisis.  Eleven years later – history isn’t repeating, but does it have a sustainable rhyme?

Cash for clunkers v1.0

Post-GFC, no fewer than 18 countries launched car scrappage schemes that provided incentives to replace old vehicles with modern ones.  These schemes had the intention of stimulating the economy by a Keynesian style demand boost, providing financial support to an ailing auto industry, whilst lowering vehicle emissions to benefit the environment. 

Were these schemes effective?

While certainly popular with consumers, their economic effectiveness remains debatable.  The US Car Allowance Rebate System dubbed CARS (pun intended!) blew the $1bn allocated budget within week one of an expected multi month period.  It ultimately cost the US tax payer $3bn to subsidise 677k vehicle purchases.  A paper by the National Bureau of Economic Research (NBER) subsequently claimed CARS actually damaged the economy.  The majority of participants in the scheme would have bought a car without any incentive and the environmental restrictions meant people were buying much cheaper cars.  Smaller, more efficient foreign cars took domestic market share and dealerships suffered as their inventory of used cars was materially devalued overnight. NBER concluded the US auto industry would have been better off without the scheme.  To some, that is a narrow assessment. Ultimately, even if CARS pulled car sales forward by just nine months, it helped to kick start consumer spending (with money saved on cheaper cars spent elsewhere), saved jobs and prevented the auto industry from collapsing.

Were the schemes good for the environment? 

The debate around this topic is two-fold.  A less polluting car fleet on the road is clearly a good thing, but the emissions generated from premature fleet retirement, and those created by the production of new vehicles may have more than offset that benefit.  A study by University of Michigan concluded that taking all of these external factors into account, CARS did have a clear net positive impact on the environment. It reduced net emissions by an estimated 4.4 million metric tons of CO2, equivalent to 0.4% of US annual light duty vehicle fleet emissions.

Cash for clunkers v2.0

Fast forward to present day. As governments look to restart economic growth in the aftermath of the Covid lockdown, reincarnations of cash-for-clunkers are springing up. In Europe, Germany and France have both launched car purchase incentive schemes. In China, various regional schemes are underway, and the US authorities are expected to launch a major package in the coming months, along with other countries. However, this time round, these schemes have the potential to make a much greater environmental impact by accelerating Electrical Vehicle (EV) adoption.  Germany is leading the charge, designing a scheme that appears to exclusively favour EVs, with the purchase subsidy for one doubling from €3000 to €6000.  Notably, both internal combustion engine (ICE) and even hybrid-powered cars are excluded from the scheme. German authorities also intend to review (read raise) tax excise for ICE cars, further incentivising the electric transition.

A demand shift for Electrical Vehicles?

While the regulatory incentives appear aligned to stimulate a transition to cleaner personal transport, frustratingly, most auto manufacturers today would struggle to meet a material uplift in EV demand. Auto manufacturers have limited EV models available and limited spare production capacity.  Further complicating the picture, there are acute production constraints in EV battery manufacturing.  Perhaps we should view cash for clunkers v2.0 as gently progressing, but not supercharging the ICE to EV transition.

What are the investment implications?

However, one thing is clear – these subsidies along with other initiatives to invest in EV infrastructure are signs that the regulatory authorities are becoming serious about the EV future – so far auto OEMs have resisted the transition, but the wind is changing. Auto OEMs today may be underprepared, but they have sensed which way the demand is moving to. VW plan on launching at least 70 EV models by the mid-2020’s, and the rest of the European OEMs are also ramping up their plans to launch their own electric vehicles in coming years.  Meanwhile in the US we have the disrupters Tesla and Nikola forging ahead and in China there are a number of EV upstarts.  As long term investors we care less about a near term boost to auto volumes and more about how our long term thesis is evolving.  Cash for clunkers v2.0 is a clear confirmation of a trend we believe will continue to accelerate in coming years, positively impacting the environment and positively contributing to alpha generation on behalf of our clients.

About the author

Malcolm McPartlin is an investment manager in the equities team, with responsibility for co-managing our UK Equity Absolute Return Fund and our Global Sustainable Equity Fund. Malcolm joined us in 2003 from Scottish Equitable where he was an assistant business analyst. He studied Financial Services at Napier University, and has 17 years’ industry experience*.  *As at 30 November 2019.

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Sustainability through a long-term lens

When it comes to investing, sustainability is a term that is used often, but one that across the industry remains rather indeterminate. For us, the case for, and requirements of sustainable investing is clear. At the heart of our approach is a firm belief that it supports long-term investment resilience and management of material risks, as well as impacting positively on society. Increasingly, that belief is backed by evidence – companies that do good, tend to do well*.

When it comes to picking stocks, we frame sustainability as a set of characteristics that allow companies to operate with resilience and longevity: maintaining stability over the long term, meeting the financial needs of the present without reducing the ability of future generations to meet theirs. We believe that fundamentally incorporating sustainability into strategy encourages businesses to frame decisions through a long-term lens, instead of just focussing on the next quarter’s results. As long-term investors, we actively seek out businesses that approach their capital allocation decisions on a similar horizon to ours.

When examining companies, incorporating a thorough Environmental, Social and Governance factor analysis into our research process is an essential requirement. It provides us with a framework on which to examine existing and potential investments. On a basic level, this allows us to remove certain industries and companies from our investment universe – companies whose products or business practices are fundamentally harmful to the broader society are ones we will never invest in. Additionally, it allows us to evaluate whether certain ESG issues pose material risks. For example, carbon-intensive industries and companies are particularly exposed to so called ‘’transition risks’’ – increased regulation and changing societal expectations as we move towards a low carbon economy – potentially leading to stranded assets.

Avoiding those that are responding inadequately to ESG risks and/or doing harm is a good place to start, but we believe we can do more. Taking a proactive approach, and incorporating the insights of our dedicated Responsible Investment team, we actively look for businesses whose products, services and practices are driving positive societal impact, helping solve some of the biggest problems facing the world – e.g. inequality, climate change, and enormous healthcare challenges like obesity and diabetes. We believe that many of these businesses will continue to see strong demand for their products and services for years to come; some of them will also grow to develop strong competitive barriers, underpinned by focussed leadership and differentiated corporate cultures, loyal customers and suppliers.

Clearly – and proverbially – the global economy is, and traditional market forces are, a big ship to turn around. Progress is also unlikely to be linear, as many short-term analysts on Wall St. would have investors believe. Wherever possible, we actively engage with the companies we invest in to help them frame business decisions better, and to ensure the right incentives are in place to deliver on sustainability targets. In order to be able to drive sustainable change, businesses need access to long-term, patient investor capital. With a typical investment horizon of several years, the Kames Global Sustainable Fund is able to provide that capital and play a small but real part in putting the capitalist system on a more sustainable footing.

*Source: Sustainable Finance

About the author

Andrei Kiselev is an investment manager in the global equities team with responsibility for co-managing our Global Sustainable Equity Fund. He joined us in 2020 from Border to Coast Investment Partnership, where he worked as a Senior Research Manager in global equities.  Prior to Border to Coast Investment Partnership, he worked for Baillie Gifford as an Investment Manager in global and US equities. Andrei has a MA in Economics from Edinburgh University and has 11 years’ industry experience.

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Covid-19 impacts – fast forward to the future

These are worrying times for many. The financial implications of the tragic health pandemic will be wide ranging, affecting people’s employment income, savings and retirement pots. As investors with a long-term perspective, we are working hard to protect our clients’ investments and help them achieve their objectives. In doing this, we are considering two major issues; the immediate one of whether our portfolios are protected from the sudden and savage economic shock and the second, what the investment landscape will look like once we have been through the worst effects. Both factors are intrinsically linked.

The first is all about company balance sheet strength, secular or structural demand, levels of flexibility on costs and margin protection. When markets fall there are always defensives stocks. However, they are not always the same ones, and this has been very apparent this time around too, as tech now seems to be a new-age defensive.

As for the investment landscape, we believe that themes post Covid-19 will closely resemble the themes that have driven equity markets over the past few years. However, the themes will be, as Schneider Electric stated in its first-quarter 2020 results presentation, ‘fast forwarded’. Below, I consider five themes which I believe will drive equity markets in this changed environment.

Ways of working and communicating will undoubtedly change radically to adapt to new practices. Working from home and relying on remote access will be accepted as an increasingly viable way to operate normally and reliably in virtual environments. Technological development is the enabler of this progress. Our world will evolve further into the clouds, hosting ever-smarter virtual applications that accelerate corporate productivity and efficiencies.

It is clear industrial disruptions, whether from a global pandemic or other economic shock, make managements look closer at their business models. Automation allows companies more flexibility on costs and capacity which, in turn, ties-in with digitalisation and technology, all of which offer structural demand.

Healthcare spending
We have written about health care issues many times before. This pandemic has highlighted issues of insufficient healthcare capacity and resilience, particularly in countries where the sector has seen cuts to spending in recent years.

Expect these spending cuts to reverse as electorates demand a more resilient safety net for the day when they come to rely on the healthcare system they have funded. This may require a rethink in terms of some of the social contracts in place between the public and the health sector, especially with regards to the level of private sector involvement in healthcare provision and the size of contribution that individuals expect to make. Focus will also increase on ensuring that public are getting value for money in areas where there is little innovation, like generic drugs and relatively standard equipment and medical procedures. This creates an environment ripe for disruption by smaller, med-tech companies that can bring new solutions to the table.

The dangers of outsourcing the majority of production to a specific geographic area were becoming more apparent due to trade issues before the current pandemic. De-risking supply chains will now be at the top of management priority lists and probably many governments too.

Sustainable Investing
Given this is the Soapbox, I wanted to finish by bringing this back to sustainability. Sustainability is the most important aspect of the investment case for a company. A close look at the company’s environmental and social impact, as well as its governance polices is vital and intrinsically linked to its strategic competitive positioning. I forecast an increased demand for renewable energy and products and services that will allow the world to function in a cleaner, more effective way than in the past. There are many nuances to this trend and I strongly believe that much of this is still not fully understood by a significant part of the investment community, namely passive and ‘value’ investors.

About the author

Michael Nicol is an investment manager with responsibility for European equities and the global equity fund. He joined us in 2017 from Dundas Global Investors, where he was a Partner. Over his tenure, Michael has held a number of positions managing European equity funds including Midmar Capital LLP/Pengana Capital, Glasgow Investment Managers, Martin Currie, SVM Asset Management, PIMCO and Dunedin Fund Managers. Michael studied Business Studies at Robert Gordon University and has over 30 years’ industry experience.

*As at 30 November 2019.

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Redefining beliefs: What behavioural changes could occur as a result of the COVID-19 crisis?

Last week’s Soapbox discussed resilience, corporate culture and the importance of companies doing the “right thing” in the current situation. This made me think further about positive changes that may come out of these dark times.

Firstly, what behavioural changes may occur? It often takes an enforced shock to the system to make you evaluate what is actually important. My hope is that in light of the current situation we will all reconsider certain norms we have become accustomed to and whether there is a better way of doing things.

For example, take the way businesses interact, both internally and externally. This has been fundamentally challenged by working from home but thanks to online collaboration applications, many businesses in the service sector have been able to stay in touch without significant disruption.

Certainly, we should take a look at the implications for our own industry. Fund management is no angel when it comes to business travel (I myself am guilty in this regard…) and has always placed a heavy reliance on face to face contact. However, a recent article suggested clients are seeing very little downside to moving meetings online and in fact, many now prefer this medium. There will always be some interactions where face to face meetings are necessary but this period will hopefully make us reconsider what “necessary” is, and whether we can reduce time spent and emissions generated through travel to meetings that could just as effectively be held online.

There is also a more intangible, social side to this behavioural change. As Craig alluded to last week, many (but not all) companies are doing the right thing and realising that this current situation is bigger than them or their next quarterly profit. This ranges from independent local cafes providing free hot drinks to healthcare workers, to large listed companies putting principals before profit. Belgian chemical company Solvay is a great example. It is setting up a solidarity fund financed by senior executives and the company itself to provide both financial and non-financial support to employees and their dependents facing hardship as a result of the pandemic. I really hope the culture of initiatives like this lasts longer than the current crisis.

We have written in the past that fairness can be a source of competitive advantage (see here, here, and here) and this strikes me as an evolution of that belief . Being fair not only to your customers and suppliers but to society as a whole. This isn’t some anti-capitalist rallying cry, but I can’t help thinking companies that take action like this will be rewarded by employee and customer loyalty when conditions improve, thus helping their competitive position over the long term.

Lastly, perhaps the current crisis also brings about change in terms of what investors perceive to be “sustainable” companies. Traditionally, this has been very heavily skewed towards obvious things like renewable energy (and with good reason – we are facing a climate emergency), and healthcare (again, with very good reason). However, this situation has shown that companies helping us to continue to function in the crisis (i.e. be sustainable) are just as important. This can include companies involved in logistics, software that supports businesses, payment systems move online and business recovery functions. There are nuances to each case but it’s important as investors that we look beyond the “obvious” solutions to sustainability and support businesses making a tangible contribution across a range of areas. 

Linking back to my earlier point, it often takes an abrupt change to prompt realisations like this. Some of the changes will be easier to make than others and there will of course be unforeseen consequences. However, my hope is that this most troubling of times can be a catalyst for positive behavioural changes going forward, contributing to a more efficient and sustainable economy and one that acknowledges its role in wider society.

About the author

Iain Snedden is an investment specialist in the equities team. He has responsibility for representing the firm’s equity capabilities both within and out with the firm, with a particular focus on our suite of global equity products. This involves ensuring colleagues and clients are kept up to date on developments within the funds and the wider market. Iain joined us in 2015 to work in the Client Management team with responsibility for a portfolio of UK-based institutional clients. Prior to that, he worked at Baillie Gifford and held roles within the client accounting and business risk functions. Iain graduated from University of Edinburgh with a first class honours degree in Accounting and Business Studies. He has 9 years’ industry experience.  *As at 30 November 2019.

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Redefining resilience: What should we expect from public companies during the COVID crisis?

Top of the risk register

Aside from nuclear war, global pandemics rank at the top of the global risk register. Whilst this is obvious to everyone now, this has long been known by governments.

“Experts agree that there is a high probability of another influenza pandemic occurring, but it is impossible to forecast its exact timing or the precise nature of its impact. Based on historical information, scientific evidence and modelling, the following impacts are predicted: Many millions of people around the world will become infected causing global disruption and a potential humanitarian crisis. The World Health Organisation estimates that between 2 million and 7.4 million deaths may occur globally”   UK Government Cabinet Office, National Risk Register report.

Figure 1: An illustration of the high consequence risks facing the United Kingdom

*The use of some chemical, biological, radiological and nuclear (CBRN) materials has the potential to have very serious and widespread consequences. An example would be the use of a nuclear device. There is no historical precedent for this type of terrorist attack which is excluded from the non-conventional grouping on the diagram.

Countries around the world will learn from this crisis. When we get through it, governments will significantly improve the resilience of our systems in preparation, which it is clear (in hindsight) have lacked adequate funding and infrastructure. Voters will fully appreciate this risk now and demand better preparedness (at least for a generation or so anyway). But what about companies?  Where do pandemics fit in the strategic planning and operational preparedness spectrum for management teams?

Building a resilient business

I consider myself a long-term investor who is focused on sustainable companies that consider long-term structural risks such as climate change and healthcare system economics. Our process is designed to identify material long-term environmental, social and governance factors and analyses product impact beyond simple first order effects. Yet, in my twenty-year career (including the global financial crisis or “GFC”) I have never asked a management team what their operational plan would be in the event of a global pandemic or how quickly their debt covenants would be breached if revenues went to zero next month.

Whilst disaster planning will have been vital in the initial response, it is my view that the most resilient businesses will be those with strong leadership and culture combined with the strategic focus. This crisis will be a test on the culture of every business. Trust in leadership will be key. Decisions will be made which will reinforce or destroy the fortunes of the business for years to come.

Technology comes to the fore

When assessing business risks, it is common to “stress test” based on particularly bad times in the past. However, this crisis is different because of the scale and rapidity with which it has happened. Furthermore, it is not bad for all businesses. In short, it has accelerated demand for many companies that might traditionally be viewed as “risky” and destroyed demand for those who might normally be considered “defensive”.

The most obvious beneficiaries have been companies that were already winning. These include some of the largest organisations in the world like Microsoft and Amazon but also many smaller companies with disruptive new technologies and business models. These include companies providing medical diagnostics, biotech research and drug development, video conferencing, collaboration software, critical event management services, basic food supply or delivery, in-home entertainment and many more. Crucially, as demand has gone up, these companies have had to try and supply the products and services that were urgently needed. Not easy when global supply chains are shut down and orders were higher than normal. As demand has spiked, such businesses have had to demonstrate flexibility and dynamism. *A great example of what this means in reality can be found in a recent Twitter thread from Slack Founder and CEO Stewart Butterfield here.

Sustainable corporate heroes

We will all learn from this crisis and I suspect companies and investors will better understand what sustainability means as a result. Organisational culture is being called on and the essential nature of products are being assessed.  Governance structures are being tested and potential of many disruptive technologies and businesses to improve the lives of billions is being unlocked.

Whilst pandemic beneficiaries have emerged, there have been many more casualties. In my view, the corporate heroes of this crisis will be those that face significant demand and supply destruction and make the right decisions despite the unprecedented position they find themselves in. What do I mean by the “right” decisions? In one line, I mean decisions that protect the business for the long-term, even if that means sacrificing short-term profitability. This means doing the right thing by customers and employees first and foremost.

We have seen many examples of heroic behaviour so far, but we have also seen the opposite. My message to CEO’s of public companies is simple. Whilst your financial resources are being stretched to breaking point, please remember that this is an opportunity to fill the bank account of goodwill with your customers, employees and broader society. It might be incredibly hard and financially stressful to do so in the short-term but it will likely drive long-term value for all stakeholders.

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