There’s no way to make a company instantly perfect but careful stock selection can help identify the companies poised to make the biggest difference to the world, according to Kames Capital’s Neil Goddin.
Goddin, co-manager of the €110m Kames Global Sustainable Equity fund, said sustainable investing and ESG (environmental, social & governance) issues can mean different things to different people.
“I admit that we invest in Tesla and people get very angry about us being invested in Tesla, because he [chief executive Elon Musk] is a nutter,” he said. “You probably shouldn’t have a CEO sitting on a radio station, smoking marijuana. And there are genuine governance issues around that story.
“The way the business is set up is far from perfect, but we think about things in a couple of different ways.” 
While governance is a very important part of the team’s process, Goddin (pictured) said the end-product – electric vehicles – and consigning the internal combustion engine to history “overrides anything else, within reason”.
It’s part of the difficult conversations that managers need to have around every holding when following a bottom-up stock selection process.
“Is there a magic green button?” he asked. “The simple answer is no, there’s no such company out there that is perfect.”
Typically, the Kames Capital manager said, companies with great products are found lower down the market capitalisation scale outside the pool of large- and mega-cap stocks where other managers hunt and as such has almost two-thirds of the portfolio in mid- and small-cap stocks.
“Unilever is a very well-run company that’s excellent at telling its ESG story but there are lots of companies out there that have equally good stories to tell but they haven’t got a 10-man ESG team,” explained Goddin.
He and his team talk to senior management of the companies they invest to understand the business and long-term thinking better and, while screening would be easier, it might not necessarily lead to better outcomes.
“One of the good things about the banner of sustainable, or a bad thing, is that it makes it more complicated. And to me the good thing around that is that there’s no cheating,” he said.
“You have to go bottom-up, and you sometimes make mistakes, admit them, change them and carry on. But also it allows a bit of freedom of choice, whereas screening didn’t allow for that.”
Nevertheless, there are sectors that the fund will not invest in, including alcohol, gambling, pornography, weapons, fossil fuels and tobacco.
“The nice thing about being a global fund manager is, even when I take out all of that stuff, I’ve still got 85 per cent of the universe left out of the 5,000 stocks I started out with,” the global equity manager explained. “And most of these industries in sectors we can’t invest in are price-takers, they’re not price-makers. That’s why we concentrate on companies that disrupt.”
The manager puts companies into three categories: ‘laggards’ that it will not invest in, ‘improvers’ or ‘leaders’.
Leaders typically have a quality bias and will include companies like Unilever. However, Kames Global Sustainable Equity has a growth bias, said Goddin, and seeks out the ‘improvers’ companies where growth rates are expected to be in double-digits for the next few years.
“Now everyone’s moaning about low interest rates,” he said. “For me, as an equity investor, it’s brilliant because companies that are innovative and want to disrupt can borrow money very cheap.
“Companies who are able to borrow money cheap and try and do new things spending on R&D [research & development] is amazing. There are so many opportunities now and so much good stuff going on.”
One of Goddin’s favourite stocks is also one of his “most boring” called Badger Daylighting, a Canadian company that started life in the oil & gas services sector but has since expanded into other areas.
Performance of stock over 3yrs
Source: FE Analytics
“Basically, what they do is dig holes. That’s the business model,” he said. “But what they do, which is clever, is they do it differently to how it has traditionally been done in the past.
“Traditionally you use a pick & shovel, or a big excavator. Now, the trouble is, if you go into a leaky pipe and it’s oil or natural gas leaking out of it and you hit a little bit of a rock with a shovel it causes a spark and often people blow up. You do that with an excavator and lots of people blow up. And that’s genuinely what has happened a lot in the industry, it’s been very dangerous.”
Badger Daylighting instead use water to excavate leaking pipes reducing the risk of an explosion and since expanded to cover other types of work.
“It’s just a really simple, easy way to dig a hole that is disrupting an industry that people probably never dreamed of that could be disrupted,” he said. “And there’s lots of reasons it’s sustainable as well, digging holes this way is far better, first and foremost is safety. There’s also environmental reasons that it’s a much nicer way to dig a hole.
“They do use a lot of water, but what you need to be careful of in water usage is that we’ve got loads of water, there’s a big sea full of it. What we haven’t got is clean water and what’s expensive is making clean water. They can use lots of different types and sources of water. The water isn’t the water that we’re short of.”
Managing risk remains one of the top priorities for the manager, however, and something that is managed from the bottom-up through stock selection.
“All you can do is be diverse and make sure you have some stocks that don’t all do the same thing,” he said. “And that’s something we constantly dig around for.”
The manager said the team also follow what it describes as an FVT process: fundamentals, valuation, and technical.
“We want a stock that we fundamentally like, at a valuation we think is wrong, and where the technicals look like they’re going in the right direction,” he concluded. “From a valuation perspective, I am looking for companies that I believe are wrongly priced and I think that happens more in the small- and mid-cap land.”
Kames Global Sustainable Equity is benchmark unconstrained fund launched in April 2016 and aims to outperform the MSCI AC World index by 2.25 per cent annually over rolling 36-month periods.
Goddin – who is also head of equity quantitative analysis at Kames – manages the fund alongside co-manager Craig Bonthron.
Performance of fund vs sector & benchmark since launch
Source: FE Analytics
The Kames Global Sustainable Equity fund is up by 62.53 per cent since launch, compared with a 54.87 per cent gain for the MSCI AC World benchmark and a return of 48.63 per cent for the average IA Global peer.
The fund has an ongoing charges figure (OCF) of 0.93 per cent.