Sustainable Global Growth Themes
AB Sustainable Global Thematic Fund
Author: Ticker Magazine
Last Update: Oct 18, 9:27 AM EDT
|For investors with a long-term horizon, growth can come with the added benefit of sustainability, as a growing number of governments and corporations are committing to developing technology and infrastructure in a socially acceptable and environmentally friendlier way. Daniel Roarty, portfolio manager of the AB Sustainable Global Thematic Fund, and his team of analysts rely on field research to find these investment opportunities around the globe.
“We use the United Nations’ sustainable development goals as the underlying framework, as we believe sustainable themes linked to those goals offer investors a powerful combination of long-term growth potential and favorable risk characteristics.”
Q: What is the history and objective of the fund?
Our fund began as a global thematic strategy in 2008, believing that to beat benchmarks over time, we need to differ from those benchmarks. So, rather than use any particular benchmark, the fund’s foundational strategy is to identify powerful global growth themes. We are not value-oriented investors, though we have a disciplined approach to valuing securities.
I took over management of the fund in 2013, at which point we narrowed our thematic focus to sustainable investment themes, themes that benefit society or the environment in some way, such as renewable energy, clean water and sanitation, and financial inclusion.
We use the United Nations’ SDGs, their sustainable development goals, as the underlying framework, as we believe sustainable themes linked to those SDGs offer investors a powerful combination of long-term growth potential and favorable risk characteristics.
This is a global fund so about half is invested in U.S.-domiciled companies, about 30% in non-U.S. developed markets, and about 20% in emerging markets. Currently, we have about $2 billion overall invested in the strategy.
Q: How does the fund differ from its peers?
As I mentioned before, we are thematic. We build this portfolio around the most attractive long-term investment themes we can find rather than around a benchmark. And we directly align our portfolio with the UN’s SDGs, so every stock in our portfolio aligns with the broader themes of climate, health, or empowerment. Those are our three primary buckets.
The goal is to generate a portfolio with characteristics and performance as attractive as any peer global fund while also delivering positive impact on the world around us.
Q: How many themes do you have in total?
Well, there are the three primary themes I mentioned—climate, health, and empowerment—plus 15 subthemes.
Within the 17 UN SDGs lie 169 sub-targets. Now, not all may be investable. Some of those 169 sub-targets are geared more toward policy initiatives, but some do present interesting opportunities for private capital to add value and provide solutions. So, we begin by distinguishing between those that are policy driven and those that feature opportunities for private capital.
For example, within climate lie the subthemes low-carbon generation, energy efficiency, clean transportation, water and sanitation, and recycling. We examine these to see if they offer interesting and powerful roles for private capital.
Within the health theme lies medical innovation, affordable care access, healthy lifestyles, food security, and physical safety. And the category of empowerment features financial inclusion, gender equality, economic infrastructure, and enabling technologies.
Q: Do you exclude any particular themes?
Any parts of the SDGs that we deem more explicitly unsustainable, like weapons, nuclear power, coal, alcohol, tobacco, pornography, gambling, and GMOs, are excluded. Also, these tend to represent more classically value-oriented parts of the market, while we focus on growth-oriented parts of the market.
Q: How would you describe your research process?
With the themes defined, our next step is to look at the broad universe of all global companies at around $500 million in market cap and up. We have a universe of approximately 1,500 companies with some degree of revenue exposure—that sell products and services—levered to these individual subthemes. So, the first step in our process is top down.
Our thematic approach is really a combination of a top-down and a disciplined bottom-up approach to add value. Out of those 1500 companies, only 30 to 60 will make it into the portfolio.
We have an internal rate of return (IRR)-based valuation methodology where our investment team of eight analysts models out five years of financials for every company we consider, and we use proprietary methods to develop bull-, bear-, and base-case scenarios. Building out the valuation with conservative exit multiples at the end of five years gives a return expectation, an IRR, for every potential company.
At that point, we compare return to risk. We calculate a unique cost of equity for each company by quantifying a number of risk categories, including Environmental, Social & Governance (ESG) risks. The cost of equity serves as the hurdle rate for a particular company to enter the portfolio. Riskier companies have a higher cost of equity; less risky companies have a lower cost of equity.
What we don’t have is a mandate where a company must have a certain level of revenue growth or return on invested capital or balance sheet level. Ultimately, we compare the IRR, which is the spread between return and the cost of equity, and the higher the spread, the more attractive the stock is to us.
Q: Are there any other facets to your research process?
We do something we call “materiality mapping.”
Part of our bottom-up risk assessment involves environmental, social, and governance (ESG) risk analysis, because the environmental risks a bank may face, for instance, differ from the environmental risks an oil and gas company faces. We map out the most material ESG risks for companies across 68 industries in a specific manner, and drill down at the industry level.
This type of risk analysis increases our confidence in the cost of an equity, and is something we don’t see a lot of other firms doing.
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