Sustainable investing strategies have been a growing proportion of total assets under management. Greater awareness in this area is leading more investors to align their portfolios with environmental, social and governance (ESG) principles, and the range of sustainable strategies available has been growing.
But ESG approaches often differ a lot between each other and aren’t easy to evaluate.
Impax Environmental Markets has a process based on ‘pure play’ environmental companies, whose prime aim is to be a part of the solution to one or more ESG issues. It achieved an FE fundinfo Crown Rating of five as well as a five-star ISS ESG rating.
Over the long term, the fund has performed in line with its benchmark, the MSCI All Country World Index, while it suffered, like many of its peers, over one year and shorter timeframes.
Performance of fund year-to-date against its index
Source: FE Analytics
Below, co-manager Fotis Chatzimichalakis discusses the fund’s approach, how the management team has been tackling headwinds and where he sees green opportunities going forward.
Can you illustrate the fund’s philosophy and investment process?
We invest in global businesses that are pure-play environmental solution providers. Our selection process encompasses a wide range of sectors, including renewable energy and energy efficiency, with companies involved in insulation, LED lighting and industrial energy efficiency, transportation, and more.
All companies that we own must have proven economics, not rely too heavily on subsidies and have at least 50% of their sales or profits coming from activities that are captured by our taxonomy.
Lastly, we fully integrate ESG analysis in our companies and implement a strict valuation discipline. We won’t stay in positions that are becoming too expensive to justify.
What sort of portfolio emerges from this process?
We own 50 to 60 names and the process is bottom-up, so we don’t have target exposures to geographies or sectors.
Our biggest concentration when compared to the global market is in industrials but within this category we own companies that are exposed to different sectors, such as construction, automotive, and manufacturers of products used by other industrial companies, so we achieve a good level of diversification.
We also tend to be overweight in utilities, mostly renewable energy developers and operators, and some water utilities as well.
How has the portfolio changed recently?
We have been favouring more defensive rather than cyclical businesses lately, but the biggest change has been around software and technology, where we are increasingly seeing opportunities.
Some of our IT names have suffered in the past year, but not across the board, as we don’t invest in hyper-growth names. Instead, we focus on strong free-cash-flow generators perhaps with subscription-based business models, which allow for recurring revenues and high customer retention.
In the materials space, we have found quite a lot of opportunities in bio ingredients companies, which are essentially displacing petrochemical and fossil-fuel-based materials.
What have been the best and worst performers of the past year?
We had a 1.7% increase in relative performance from renewable energy developers and operators such as Ormat (geothermal), Terna Energy (onshore wind and solar) and Northland Power (offshore wind).
Mergers and acquisitions activity returning to our markets has also accounted for more attractive valuations. For example, we profited from the announcement that Switch, a US data centre company that is 100% powered by renewable energy, is being taken private, growing 60 basis points.
On the other hand, market sentiment turning against growth stocks lost us 4.5%, with companies like GNRC (backup power generators and home energy management systems), Spirax Sarco (more efficient use of steam in factories, helping them reduce energy consumption), and Nibe (heat pumps) being affected.
What have been your personal contributions since you joined the fund’s managing team last year?
I had already been working in the portfolio construction for three years before I became co-portfolio manager in 2021 and my focus has been on software companies that bring incremental efficiencies in the industrial and construction spaces.
For industry players, software can help with product design by predicting how a product might behave in different environmental conditions, manufacturing by using connected factories and industrial internet of things, and also with preventative maintenance by employing remote monitoring and operation.
In the construction space, which is one of the least digitised in the global economy, we are interested in software solutions to tackle, for example, the over-ordering of materials, as this leads construction sites to waste 20% of materials.
Are there any sectors you won’t invest in, despite matching ESG criteria?
We steer away from a hyper-growth concept like hydrogen, which can be used to decarbonize some sectors that are hard to decarbonize, such as steelmaking and shipping. The sector has recently attracted a lot of capital and reached very expensive valuations. However, these companies haven't made the leap to profitability yet, and many still rely on subsidies and policies, so we won’t get involved.
Another one would be nuclear, which has a very clear positive impact in terms of cutting down emissions, but it also has a massive externality from the waste produced in the process, so it’s not included in the remit of the strategy.
What do you do outside of fund management?
I am trying to remind myself how to play the piano, and as a Southern European, I love food and cooking.