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Schroders heralds the changing investment climate

CIO Alan Brown says fund managers will also come under pressure on their own internal environment policy.

Alan Brown, chief investment officer at Schroders, the £137.6bn ($197bn) UK fund manager, believes the company’s newly launched Global Climate Change Fund, could take in over a billion US dollars by this time next year. His confidence is a sign mainstream asset managers believe climate change is a serious investment proposition.
The fund, which already runs assets close to $300m (€210m), launched at the end of June in Hong Kong, then Singapore, Japan and in the UK in September.
Targeting retail investors to begin with, Brown says the company has also met with institutional clients interested in its long-term outlook. Schroders says the fund is the first in the UK giving investors exposure to a global portfolio of companies involved in mitigation of or adaptation to the effects of climate change. It aims to beat the MSCI World Index over a two-year time frame through investing in a concentrated portfolio of 50 to 80 stocks. Brown, a respected strategic thinker, believes climate change has brought about a fundamental shift in investment prospects.“Most of the early studies showed that if you applied an investment screen for environmental issues then the company performance over a number of years did better than the market average. But the research was bad. It was riddled with things that no academic should let through: look-back bias, no adjustment for all the industries they’d taken out and size effects, etc. Then in about 1991, some academics from the Netherlands, including Rob Bauer formerly of ABP, did some really good work on performance attribution using a data set from Innovest, which carefully accounted for all the industry sizes and companies removed. The residual performance was still positive. However, being the good academic he is, Bauer acknowledged that it was a period-specific result.
“We now believe the climate change theme is so fundamental that it is going to lead to a huge re-investment in new technologies and new businesses as we seek to mitigate and adapt to climate change, and that these are nothing like discounted at the moment. Some companies will be relatively advantaged because
they are in the fast flowing part of the river, so to speak, on this, and others will silt up on the left bank. We see these effects already with the taxing of gas-guzzler cars in the City of London. These kinds of issues will change economic behaviour. There will be winners or losers that are not discounted. We just had our European institutional investment conference recently. I asked the question whether climate change could be a significant driver of earnings in the next five years. Only 30% of the attendees said yes. It seems to me that this is good news if you’re investing in this theme because it hasn’t been taken into account.”
Brown says the fund is eschewing the benchmark in favour of conviction: “If you believe in a theme you don’t want to wait until the market capitalisation reflects it, you want to overweight it before it happens. We are building a diverse portfolio, but we’re not paying any particular attention to market cap weight, either by geography or by industry.” Brown, who also sits as a pension fund trustee, says the aim is to buy cheap stocks that will profit from the trend: “As a trustee, I hear fund managers who say: “we buy good companies”, and I’m always waiting for them to finish the sentence. A priori, I don’t know why you would want to buy good companies particularly. I need to know that it is a good company and that it is relatively cheap. If it’s already fully discounted in the price, then I would much rather buy a bad company that has the potential to become a good company and get re-rated.”
Simon Webber, global sector specialist at Schroders, who co-manages the fund, says the UK Stern reporton climate change was a seminal moment for financial markets: “One of Stern’s key findings was that to avoid the 50% chance of a five degree rise in temperatures we will need to cut greenhouse gas emissions to 25% of their current level. A 75% cut in greenhouse is an absolutely massive transformation of the global economy and has to touch every sector.
“There is an emerging consensus, at least in Europe, that emissions levels need to be cut by 50-60% by the middle of the century, and that means there is a significant investment cycle ahead in making that transition.”
He adds that climate rises of 1-2% will also require huge adaptation such as not building on flood plains, investing in flood defences, and re-evaluating the insurance sector.
“Regulation is crucial to this financial analysis. The UK will pass a bill this year for a 60% cut in emissions and we’re trying to develop thinking that is ahead of the game: what are those regulatory changes going to be and how can an industry transform itself bearing that in mind. We’re sitting down with retailers and building companies, for example, and asking them where they see the changes and how they are adapting.”
Webber argues there is also a widespread mis-understanding of how non-power companies will have to alter their behaviour as a result of climate change: “You’re going to see a need for different lighting, different transport, more fuel cells. It’s a much broader theme than people think. The European Union is already considering banning incandescent light bulbs and Australia and New Zealand have already done it.”
Significantly, Brown says that fund managers will also likely be increasingly challenged on their own corporate social responsibility policies by investors.
“We are going through the exercise of revamping that now and I believe it will lead us to set specific targets for reducing our own greenhouse gas footprints. We are also looking at whether we will sign up to the UN Principlesfor Responsible Investment: “Our contribution to greenhouse gases are things like flying people around the world hundreds of times, and I think we can seriously question the number of people we send to meetings and the number of physical meetings we have, so we could actually end up saving money, saving time and helping to cut emissions.”