Fidelity : Sustainable Water & Waste Fund
Climate change is one of the biggest challenges of our time. With a growing focus across our communities on environmental, social and governance (ESG) issues, the Luxembourg financial centre is playing a lead role in driving this change, supporting a range of activities from responsible investment funds to green bond listings and ESG fund labelling.
Today, an increasing number of financial institutions are including ESG aspects in their investment decisions. ESG investment funds are no longer seen as a fashion or a luxury. On the contrary, they are on the rise, delivering returns and becoming mainstream. For this maiden edition of ‘Financing a Sustainable Future’ LFF sat with Saurabh Sharma, assistant Portfolio Manager at Fidelity International to learn more about their role in ESG and its Luxembourg based Sustainable Water & Waste Fund.
In recent years, Fidelity International has become increasingly involved in sustainable investments to the extent that they have 180 analysts across the globe rating companies not only from a fundamental standpoint, but also from an ESG standpoint and issuing internal ESG ratings. Today, Fidelity has a dedicated fund range and all its funds incorporate ESG into their investment decisions.
Investors are increasingly expecting a more rigorous and critical evaluation of an issuer’s sustainability profile.
LFF: How does Fidelity incorporate ESG into its investment process?
We have three pillars when considering ESG. Firstly, integration of ESG analysis, secondly engagement and thirdly collaboration. We believe that these three elements complement each other and increase the likelihood of success in enhancing investment returns. Different funds have varying levels of focus on sustainability, with the strongest applications of the approach within our Sustainable Family Funds.
ESG analysis must be embedded in your research to be meaningful. Investors are increasingly expecting a more rigorous and critical evaluation of an issuer’s sustainability profile, across all asset classes and all geographies. In 2019 we integrated and launched a proprietary Sustainable Ratings system. These ratings are available to everybody internally and portfolio managers across the globe can tap into this research too.
One of the most effective ways to improve investor outcomes is by influencing corporate behaviour through engagement. To add value, you must engage directly with management and decision makers, make sure that you listen to them and know what their targets are.
Then there is collaboration. We are a signatory to the Task Force on Climate related Financial Disclosures (TCFD) and the UN-backed Principles for Responsible Investment (PRI). We work with local industry associations to ensure companies have a consistent set of standards to work towards. Each of these elements is designed to help identify and operate high standards of corporate responsibility.
LFF: How do you assess and measure the ESG criteria when making an investment?
We have set targets for our Sustainable Family Funds. At least 70 per cent of the portfolio needs to be invested in companies that we classify as having good ESG values and the remaining 30 per cent are companies which we expect to improve. This is where the bottom-up approach comes in. We start with a detailed review of ESG affecting each individual asset at the security level.
We use data providers such as Trucost, Morgan Stanley Capital International (MSCI) and Institutional Shareholder Services (ISS). Additionally, we get data on carbon intensity from UN global compact evaluations.
For our proprietary Sustainable Ratings system, the investment universe has been segmented into 99 distinct sub-sectors. Each has industry specific criteria upon which each issuer is assessed, relative to their peers. For each industrial group you will have questions on ESG issues. Our analysts are free to add questions to the list.
The analysts then rate the company on each of these questions and predict whether they expect the company to improve its ESG standard or to deteriorate.
LFF: How do you measure the return relative to ESG criteria ?
This is one area where the industry could still improve. There are a couple of ways of looking at it. The performance of our funds is measured against their reference indices and our defined sustainability criteria.
The performance of our Sustainable Water & Waste Fund, for example, is measured against the MSCI All Country World Index (ACWI). We believe, given the thematic and sustainability focus, that we will add value to our clients in the long term. During the recent volatile market, we looked at the performance distribution of our internal ESG ratings and found a strong positive correlation existed between a company’s relative market performance and its ESG rating. In the 36 days between 19 February and 26 March 2020, the S&P 500 fell 26.9 per cent. In the same period the share price of companies with a high-Fidelity ESG rating dropped less than that on average, while those rated poorly fell more than the benchmark. Although the time period is small, we expect this trend to be persistent in the long term.
LFF: Could you explain the story behind the Sustainable Water & Waste Fund?
Our Sustainable Water & Waste Fund is a story of people. For centuries people have built cities with a sanitary system around a body of water. Across the world, any global city you look at has this fundamental framework. This has been a story for thousands of years and it is going to be the same story for the next thousand years. There is no economy without water and no sustainable economy without waste management. So within this fund we invest across the whole value chain of water and of waste.
For water, we go from pump manufacturing and water treatment companies to water recycling companies. The same goes for waste; it is end to end.
The Sustainable Water & Waste Fund is based on five drivers: urbanisation, consumption, infrastructure, regulation and sanitation needs, and scarcity of resources. In 2011, 50 per cent of the global population lived in cities. By 2050, this number is expected to be 70 per cent. As more people move to the city, our water consumption and the waste production increases.
Now, the majority of people are not aware of how much water they actually use. That cup of coffee you make in the morning requires about 140 litres of water to grow, process and transport enough beans for just one single cup. The footprint of a simple cotton t-shirt can take up to 2000 litres of water. It is not just drinking water that we consume.
Those figures bring us naturally to consumption and wealth creation. The more money we spend, the more water we consume in terms of goods. Increased consumption also means more pressure on our infrastructure. This story plays out across the developed world. Take London for example. The drainage and sewage system here were built in 1850 for a population of one million people. Today, London has a population of around 9 million. This illustrates the constant need for capital expenditure just to maintain the infrastructure.
Another driver of this fund is regulation and sanitation needs. Since the pandemic we became so much more aware of the importance of sanitation. Water waste companies have been dealing with regulation such as that for ballast water, where you must clean the ballast water before you release it into the ocean.
My last point is scarcity. Although 70 per cent of our planet is covered by water, only 25 per cent is drinkable and only 15 per cent is accessible to us. Likewise, with waste. There is limited land that we can use for our waste. Land is not a resource that is there in abundance when you fill up a city. Recycling and circular economy need to be put at the forefront.
LFF: What are investors looking for when they invest in the Sustainable Water & Waste Fund?
This fund was launched on 7 November 2018 with USD 20 million. As of the end of June 2020, we are managing USD 1.7 billion. We grew from USD 20 million to almost USD 2 billion in less than two years.
Investors understand the story. They also like the fact that the fund’s structural drivers are here to stay. It’s not a story we see playing out just for a couple of quarters. A lot of investors are coming into this portfolio for the long term.
When investors look at their portfolio’s, many of them will list large exposures to technology and communication services. Most of our allocation tends to be in industrial companies and utilities, so this fund serves as a great diversifier.
Last but not least, investors now actively look for sustainable funds. Not only is this fund sustainable in theme, but we have defined a sustainable ESG framework which is monitored by our compliance team.
LFF: What fund labels or other indicators should investors look out for when seeking sustainable investment funds?
Today, there is no one perfect way, there is no holy grail of labels. That is why it is important for investors to understand how ESG is integrated into the investment process. Investors have to ask themselves, is it just an overlay or is it integrated throughout the process?
Our Sustainable Water & Waste Fund was set up in Luxembourg, where there is a strong relationship between the country and sustainable finance. They provide the right structure that allows a wide range of our European customers to access the fund. Investors in Luxembourg funds are experienced in sustainability, they often ask the right questions and most importantly, they challenge the integration process.
For this fund we worked with three different labels, the Luxembourg label LuxFLAG, a Belgian label called Febelfin and Ecolabel, an Austrian label. The LuxFLAG label asks about your investment process, they want to know how ESG is integrated into your investment process. Once they have checked every step and they are happy with the results, they give you the label which will need to be periodically renewed
The COVID-19 crisis and the lockdowns of entire economies worldwide have sharpened the focus on corporate responsibility for employees, customers and even suppliers.
LFF: What do you think will be the future of ESG investing?
This is not a brief moment in the spotlight, but rather a serious reappraisal of our system of capitalism, of how enterprises are run and for what purpose.
The COVID-19 crisis and the lockdowns of entire economies worldwide have sharpened the focus on corporate responsibility for employees, customers and even suppliers. It appears as if capitalism is about to go through one of its periodic reinventions. One aspect of its current incarnation was largely shaped in the 1970s by Milton Friedman’s shareholder doctrine, which held that a company should be run in the interests only of its shareholders. But, over the past half century, the world has changed. The CEOs of many of the largest corporates, some of which appear almost to rival governments in their reach and influence, have said that running them solely for the benefit of equity owners is no longer an option.
Friedman’s approach risks alienating non- shareholders – including the customers and employees on whom every business depends. In the long term, what is good for stakeholders is good for shareholders too. In short, I would say that ESG investing is here to stay.