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Climate change profit destruction threatens third of global equity market

22 March 2021

Almost a third of the global equity universe faces a threat to its long-term profitability unless companies adapt their businesses to the challenges of a low-carbon economy and actively reduce their carbon footprints, according to the manager of the J. Stern & Co. World Stars Global Equity fund. 

The asset manager says that with significant inflows to ESG strategies from both UK investors and further afield – some £8.8bn of inflows in the first ten months of 2020 – the trend is poised to “become the norm” as new regulations, such as the European Unions Sustainable Finance Disclosure Regulation (SFDR), push investors to scrutinise the environmental performance of their holdings even more carefully.

Now, as vaccines emerge and pave the way to a return to normality, governments are presented with a crucial opportunity to entrench climate action into their recovery plans.

Last month, the European Union earmarked 37% of its Recovery and Resilience Facility towards climate measures, while US President Joe Biden’s administration announced a $2 trillion proposal to fund the clean energy transition.

Christopher Rossbach, manager of the World Stars Global Equity fund, says that while companies potentially have a great deal to gain from leading this transition, those businesses that are shirking the challenge of climate change are setting themselves up for failure.

“ESG needs to be core to every business now, not in ten years’ time. There is a real issue in terms of the returns you will be able to generate as a company if you do not take this seriously now,” he says.

Rossbach believes as much as 30% of the global equity market is now at risk from the effects of climate change, with wide-ranging consequences across sectors, including not only the energy sector but also the broader commodities, automotive, utilities and financials industries.

“Against a backdrop of governments pushing forward with their plans to make economies greener, businesses must therefore now follow suit. However, the reality is that many businesses need overhauling, presenting serious dangers for equity investors. We believe that a large share of the global equity market – as much as 30% – is at risk of significant disruption or failure as a result of this trend. That is why we invest in companies that we believe will be disruptors in their respective industries, rather than being the ones suffering from disruption.”

At a company level, Rossbach says his fund’s carbon footprint is some 70% below the comparable MSCI World index’s carbon footprint, reflecting J. Stern & Co’s focus on asset light, intellectual-capital rich companies. The manager also notes that over half of its investee companies are already aligning themselves with the recommendations of the TCFD Task Force for Climate-related Disclosure.

“We absolutely believe that sustainability is key to generating good investment returns and that how companies perform on ESG issues is a critical part of the quality we look for in companies.

“As part of our ESG analysis, we pay special attention to how businesses manage their GHG emissions, whether they have set science-based targets, if they align with global initiatives and how much they disclose around climate-related metrics,” he said.

“We find that many of them are not only disrupting the world thanks to their innovative technology or approaches to markets but also proactively mitigating climate-related risks.

“These businesses are improving the way they work and will be capitalising on the shift to a low-carbon economy.”

Technology and innovation are key, Rossbach adds and he highlights a number of the fund’s holdings within the industrials space which are well placed to leverage on these opportunities.

“Both Eaton and Amphenol are key participants in the electrification of the economy, supporting the shift to smarter, more complex, distributed grids and the electrification of the transport sector,” he said.

“Honeywell is playing a major role in helping fossil fuel heavy industries transition to a low carbon economy, not only through energy saving automation solutions but also through new offerings in grid scale energy storage, advanced plastics recycling and alternative fuels.”

“Meanwhile, the need for more energy efficient buildings is underpinning demand for our holding in Sika. We engage with these companies about how they are taking advantage of the opportunities of a low-carbon transition, and we are pleased with their demonstrated ability to develop innovative solutions,” adds Rossbach.

The investment firm also discusses with their investee companies what they – as responsible investors – expect to see in terms of disclosure and target-setting in the area of climate action.

Rossbach adds he is not afraid to divest when companies fail to deliver on sustainability and innovation.

“We have sold oil services provider Schlumberger, for example, because although the business was the undisputed leader in its industry, it did not have a clear roadmap to pivoting away from oil and gas to alternative energy sources,” he said.

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