Hamish Chamberlayne, Head of Global Sustainable Equities, explores the most recent developments in the world of sustainability as we begin to emerge from the COVID crisis and discusses how the fund has performed in light of this.

Key takeaways:

• As lockdown restrictions ease and economic activity picks up, many investors, encouraged by substantial central bank stimulus, are hopeful for a V-shaped economic recovery.
• Despite continuing climate disasters, the prospect of a ‘green recovery’ in the European Union (EU) is promising, with fiscal stimulus packages directed towards renewable generation, green building technology and materials, and e-mobility.
• We expect to see mixed success for companies as restrictions ease and believe those that are aligned with the transition to a low carbon economy and digitalisation might be more resilient over the long term.

The second quarter of what has been a tumultuous year saw equity markets rebound strongly as the global growth rate of COVID-19 infections slowed in some regions, giving investors hope that the worst of the pandemic may be over. Lockdown restrictions were eased in several countries with economic data highlighting increased activity levels, fuelling hopes of a V-shaped global economic recovery. Sentiment was supported by the remarkable scale of stimulus, both monetary and fiscal, that has been announced by central banks in recent months. The US market outperformed the other major markets, registering its best quarter since the fourth quarter of 1998, helped by the ongoing outperformance of technology stocks with the Nasdaq index reaching new all-time highs.

How have we fared from an environmental perspective?

In our Q1 update we remarked that the COVID-19 pandemic had given us a glimpse into what a sustainable future could look like with large declines in carbon emissions and air pollution. Initial readings from satellite data indicate a 30-60% reduction in nitrogen dioxide and particulate matter pollution in major cities across the world driven by reductions in congestion, air travel, and heavy industry. With economic activity starting to rebound, however, this will be nothing less than a short-lived interruption and will have had a negligible impact on slowing down the climate crisis, which continues to escalate.

Amid the pandemic-dominated news headlines it is easy to overlook the most recent environmental disasters: reports of record high temperatures in the Arctic and a record number of forest fires in Siberia. These follow the record number of wildfires in Australia and the Amazon last year. It is, however, encouraging to see that many governments have not lost sight of the imperative to decarbonise economies and we are optimistic about the prospects of a ‘green recovery’ in the EU, with fiscal stimulus packages directed towards clean technology sectors such as renewable generation, green building technology and materials, and e-mobility.

Tech stocks lead the way

The move towards a digital economy has been an important theme for the last few years and the pandemic has accelerated this transition with our strategy benefiting from its software and semiconductor related investments. As a result, the overweight stance to the technology sector contributed to outperformance while our minimal exposure to the types of businesses more severely impacted by the crisis was also of benefit.

At the stock level, Avalara, an innovative developer of sales tax management systems, and design software developer Autodesk, both performed strongly after announcing higher than anticipated revenue growth that highlighted the resilience of their business models. Similarly, Cadence Design Systems benefited from strong demand for its cloud-based collaboration software, which facilitates circuit board design and electronics manufacturing. Indeed, companies that provide cloud solutions were in high demand as employees across many businesses started working from home. Adobe reported robust revenue growth driven by its Creative, Document and Experience Cloud businesses while Microsoft reported strong demand for its Office and Azure offerings. Technology hardware companies with exposure to cloud data centres also benefited with our holdings in semiconductor equipment manufacturers ASML and LAM Research both outperforming.

The largest detractor from relative performance in the quarter came from two stocks that are not held – both Amazon and Apple rose by more than 40%, which negatively impacted fund performance by more than 1%. Within our holdings, the main detractor was US post-acute healthcare provider Encompass Health, as COVID-19 has had a negative impact on admissions to its inpatient rehab facilities, although its home health and hospice services continue to grow. Japanese analytical tool manufacturer Shimadzu was another drag on performance after the company reported disappointing full year results and downgraded future growth expectations. We still believe in the company’s ability to grow sales in the long term but foresee that demand may be lacklustre while COVID-19 delays spending from its customers.

 ‘Winners’ and ‘losers’ of the COVID crisis

As lockdown restrictions are starting to lift, economic activity has rebounded but the mixed success of the lockdown easing across the globe serves as a reminder that it will not be an easy process. Sectors such as retail stores, restaurants and in-person entertainment will continue to struggle until more normal activity levels resume. Conversely, digitalisation, a trend that we believe is aligned to a sustainable economy, continues to accelerate. The resilience of the digital economy thus far, with many companies seeing increasing demand for their services, has served to underline the idea that many people and businesses can lead lower carbon lives.

We firmly believe that the transition to a low carbon economy will continue; the unstoppable momentum in clean technology combined with rising regulatory burdens associated with carbon continues to make investment in fossil fuels less attractive and we expect a continuation of the regulatory support for the transition to clean energy. An increasing number of companies across the power generation, transportation and manufacturing sectors have committed to multi-year investment plans aligned with the transition to a low carbon economy. In the coming decade we believe an enormous increase in renewable generation capacity, breakthroughs in battery technology and broad consumer uptake of electric cars is inevitable. We believe this will be the decade in which we will see clearly the prospect of peak oil demand.

There are many other areas where we expect little change – the need for essential health services, driven by ageing populations, has only increased due to this crisis; there remains great need for insurance and risk management services; population growth and urbanisation will continue and with it the need to invest in sustainable infrastructure, public transport, energy efficient buildings and water technology. Innovation will advance in respect of the circular economy and there will still be demand for many consumer goods and services in relation to sports and leisure, entertainment and healthy eating.