AI and Data Analysis will play a transformative role in the management of sustainable portfolios in the coming years
7 NOV, 2024
This week we had the opportunity to interview Hamish Chamberlayne, director of global sustainable equity and portfolio manager at Janus Henderson. With him, we were able to learn about his perspectives on global sustainable equity and the current investment opportunities he finds in this type of asset.
With 21 years of experience in the financial sector, Chamberlayne manages the JH Horizon Global Sustainable Equity Fund. He has been a fund manager at Henderson since 2012, after joining the entity as an investment analyst in 2011 from Gartmore. Previously, he worked as a senior auditor at PricewaterhouseCoopers, dedicated to various sectors such as energy, technology, and communications.
Hamish Chamberlayne began his professional career at Burlington Consultants in 2003, where he carried out commercial audit processes of companies considered acquisition targets by private equity firms.
What are your perspectives on global sustainable equity?
Our investment philosophy is based on the premise that there is a close relationship between sustainable development, innovation, and long-term compound growth. Therefore, we believe that the transition towards a more sustainable global economy is one of the greatest investment opportunities of our lives, which will impact all sectors of the economy; we are firmly convinced that the best investment opportunities will be in companies that are aligned with this transition towards a more sustainable global economy, and these will be the companies most likely to compound wealth over time. Consequently, this shift towards more sustainable companies is a multi-year megatrend, and it bodes well for the prospects of global sustainable equity in the long term.
Lately, the narrative around sustainable investment has shown some variability, with defense values performing well in a context of geopolitical tensions, and renewable energy sectors and electric vehicles facing challenges due to rising interest rates. Despite these diverse signals, our confidence remains intact in the current and vital trends towards a sustainable global economy, although they seem somewhat varied in light of the current global circumstances.
We believe that the current mixed investment environment is not a drawback, but an opportunity. It highlights the potential value of sustainable investment trends and presents attractive opportunities in high-quality companies that have temporarily fallen out of favor. This situation presents attractive risk-reward propositions for these equity values.
What investment opportunities do you currently see in this asset class?
Our approach to sustainable investment is upward: we look for high-quality companies that are enduring. And more importantly, we overlay a deep fundamental analysis with ten distinct sustainable development themes -five social and five environmental- that we consider closely aligned with powerful secular trends that will drive the long-term compound growth of companies exposed to them.
We see a number of prominent megatrends in motion within the global economy oriented towards transition. These megatrends can be of environmental or social nature and, given their global scope, serve as powerful "forcing functions" for secular investment trends that transcend industries and sectors. As a result of the forcing function of megatrends, they serve to act as "natural compounders" for businesses immersed in their constant movement.
We have identified a number of current megatrends that span sectors and themes. One of them is the so-called "electrification of everything", which encompasses grid modernization, the adoption of more renewable energies, the expansion of broadband with 5G and the shift to electric vehicles, among other ongoing transitions. The demand for electricity is growing at a breakneck speed, a dynamic that has become widespread worldwide.
We believe that gaining exposure to megatrends through the "picks and shovels" in these themes provides an effective means of generating favorable investment outcomes for investors, within a confidence interval that is easier to subscribe to over our investment horizon. In addition, many of the end products exposed to megatrends may be present in underlying cyclical industrial structures; therefore, being "one layer away" through investments in suppliers of these product areas can help mitigate volatility and cushion the cyclical nature, as picks and shovels tend to be longer cycle by their very nature.
How do you define and select sustainable companies for the Janus Henderson Horizon Global Sustainable Equity fund portfolio?
We have a deeply ingrained process when it comes to defining and selecting sustainable companies for our portfolio. The development of a very clear and coherent evaluation framework when assessing companies to include in our strategy is one of the achievements we are most proud of.
Our investment process is designed to answer two simple questions:
- Is the world a better place thanks to this company?
- Is this company going to grow wealth?
Therefore, we consider both a sustainability issue and a financial issue when considering new values for investment.
We have an unrestricted and bottom-up idea generation framework, but most importantly, all the ideas we examine must go through the Janus Henderson Global Sustainable Equity evaluation framework. The first two pillars of our four-pillar sustainable investment strategy are our ten sustainable investment themes (cleaner energy, water management, efficiency, environmental services, sustainable transport, health, sustainable property and finance, knowledge and technology, safety and quality of life) and our exclusion criteria (they refer to our investment principles, but we exclude activities that harm the environment or society, such as fossil fuels, tobacco, intensive agriculture, gambling, concerning chemicals, etc.), which aim to answer the first question of our process: is the world a better place thanks to this company? Specifically, we look at the destination of the companies' revenues: what the company does, what its products and services are, etc. Once we have established a company's suitability to our sustainable investment criteria, we conduct a deep fundamental research to determine if the company is going to generate wealth over time, and then we have some very specific rules around the construction of our portfolio.
What ESG criteria do you prioritize in your analysis?
Our main requirement for each of our holdings is to be able to adequately answer the question: Is the world a better place thanks to this company? To this end, we publish a comprehensive quarterly report that provides our investors with total transparency about our thematic analyses and assignments for each of the holdings in our portfolio.
For our research process, it is essential to closely monitor and evaluate the environmental, social, and governance attributes of companies, and we set the bar very high for companies that can opt for a position in our portfolio. Our due diligence process incorporates the completion of a comprehensive investment checklist, which includes a detailed inspection and a benchmarking of the companies' ESG PAIs, in which we control aspects such as controversies, ESG risk ratings and scores, climate information, energy consumption data, DEI, governance, biodiversity, water use, and the impact of hazardous waste, among others.
We use a number of reputable ESG data providers to feed our ESG analysis process, in addition to having access to dedicated resources on the desktop, as well as a broad and talented group of analysts in our internal ESG teams, who assist with research, engagement planning, and administration. Janus Henderson has recently launched its own ESG data platform, which is a "one-stop shop" for guiding ESG research, which we believe gives us a significant advantage over the rest of the industry in ESG analysis.
What global market trends do you believe are driving the demand for sustainable investments?
There are several market trends driving the demand for sustainable investment. We focus on four environmental and social megatrends that we consider the most relevant to our investment framework and inform our positive and negative selection criteria. They are long-lasting by nature and have causal and interdependent relationships with each other, as environmental megatrends have implications with respect to social sustainability issues, and vice versa.
- The first is demographic growth, which will significantly increase in the next three decades. There will be an increase in demand for many different types of goods and services that meet the needs of this growing and changing population, from basic needs such as food, water, and housing to transportation, financial services, education, health, security, and well-being. We try to invest in companies that produce goods and services beneficial to society and do so while protecting natural capital. We avoid investing in companies that produce goods and services harmful to society.
- The second is population aging. The world population is aging, and virtually all countries in the world are experiencing an increase in the number and proportion of older people in their population. According to the UN, population aging is about to become one of the most important social transformations of the 21st century, with implications for almost all sectors of society. By 2050, it is expected that one in six people worldwide will be over 65, compared to one in eleven in 2019. There are additional goods and services that must be taken into account in relation to demographic aging, such as health services, financial security and social protection, as well as companies that offer solutions that address the decline in labor force participation and the increase in dependency rates.
- The third are resource limitations. Natural capital resources underpin economic prosperity, as well as other social benefits such as health, culture, identity and well-being. Natural capital is the world's reserve of renewable and non-renewable resources, which includes geology, soils, air, water and all living organisms (biodiversity). It is estimated that the annual value of ecosystem services that the global economy obtains from natural capital is higher than the global Gross Domestic Product. Due to population growth and a linear economic model, natural capital resources are being damaged and depleted faster than they can be replenished, undermining the ability of the global economy to generate adequate wealth to support social trends. We seek to invest in companies that protect, enhance or enable more sensible use of natural capital by increasing efficiency, adopting circular business models and mitigating and reducing pollution. We avoid investing in companies that damage or deplete natural capital.
- Finally, we think about climate change. It is the greatest environmental and social challenge the world has ever faced. The Intergovernmental Panel on Climate Change (IPCC) has warned that to meet the goal of limiting global warming to below 1.5ºC "global net CO2 emissions caused by humans would have to be reduced by around 45% from 2010 levels by 2030, and reach net zero around 2050". Failure to do so would endanger health, livelihoods, food security, water supply, human security and economic growth. The transition to a low-carbon economic model is urgent. We try to invest in companies that produce goods and services that contribute to mitigating, preventing and eradicating climate change. We avoid investing in companies that exacerbate climate change or that are not aligned with a low-carbon future.
How does the increasing regulation on sustainability and ESG influence your decision-making process?
The increasing regulation on sustainability and ESG is reshaping the investment landscape, pushing both companies and investors towards more sustainable practices. This regulatory trend not only influences the operation of companies, but also the way investors evaluate and select securities, with an increasing emphasis on sustainability as a critical factor in investment decision-making.
For example, governments around the world are implementing policies aimed at reducing carbon emissions, which include setting targets for the adoption of renewable energies, imposing carbon pricing mechanisms and offering incentives for sustainable business practices. These policies are making it more attractive for investors to invest their money in sustainable companies.
Regulatory measures also often include a greater disclosure of ESG practices, requiring companies to provide more detailed information about their environmental impact, social responsibilities and governance structures. This increased transparency allows investors to make more informed decisions, favoring companies with strong ESG credentials.
On the other hand, the regulatory framework governing the investment sector in terms of ESG classifications and fund labeling is a rapidly evolving space, but ultimately we believe that the increase in requirements imposed by regulators on the investment sector is a sign of the centrality of ESG as a long-term theme underpinning the asset management of the future.
How do you manage risk in your sustainable equity portfolio amid global volatility?
Our investment approach is bottom-up. We focus on investing in companies with solid financial metrics, strong margin structures, attractive growth characteristics, and solid treasury and balance profiles. The analysis focuses on identifying securities with wide safety margins, which provides protection against falls on a fundamental basis, while offering compelling bullish scenarios. The result is a selection of high-quality global companies that have leading global franchises and show compounded growth potential, which tend to exhibit defensive characteristics in changing market conditions.
Our typical range of securities is 50-70 titles, which we believe provides sufficient diversification, and we are also very diversified by investment themes within the portfolio. Although we do not set a specific tracking error level for the portfolio, historically we have operated within a tracking error range of 3%-6%, which we consider a very reasonable risk level for the solid returns we have generated since inception.
What role do you think technologies such as artificial intelligence and data analysis will play in the management of sustainable portfolios in the coming years?
Artificial intelligence (AI) and data analysis are set to play a transformative role in the management of sustainable portfolios in the coming years. These technologies offer powerful tools to investors, fund managers, and financial analysts to better evaluate, select, and manage investments in line with sustainability objectives. In addition to offering investors the opportunity to directly play with these themes through equity or other financial instruments, AI and data analysis have the potential to influence the management of sustainable portfolios in several ways.
AI and data analysis can process large amounts of ESG data efficiently, extracting actionable information from complex data sets. This capability could allow investors to perform more nuanced and comprehensive ESG assessments of potential investments, going beyond traditional financial metrics to include a wide range of sustainability indicators, which will only enhance the cutting-edge tools we have at our disposal at Janus Henderson.
Furthermore, by leveraging AI algorithms, investors can better identify and assess sustainability-related risks, such as those associated with climate change, resource scarcity, or social unrest. AI can help predict the potential impact of these risks on investment performance, allowing for more informed decision-making and risk management.
As for the construction of sustainable portfolios, AI and data analysis can facilitate dynamic portfolio optimization through continuous monitoring and analysis of the ESG outcomes of investments. This allows for real-time adjustments in the portfolio to ensure alignment with sustainability objectives and respond to changing market conditions or ESG factors.
Moreover, AI's predictive analytics capabilities enable identification of emerging sustainability trends and their potential implications for investments. This can help investors stay ahead of events by allocating capital to sectors or companies that are likely to benefit from these trends, such as renewable energy or sustainable agriculture.
With regard to the operational aspects of fund management, as sustainability and ESG disclosure regulations become stricter, AI and data analysis can help automate compliance processes and generate detailed sustainability reports. This not only helps meet regulatory requirements, but also improves transparency for stakeholders.
Through sentiment analysis and social media monitoring, AI can gauge public opinion and stakeholder concerns about sustainability issues. This information can be valuable for both companies and investors in understanding stakeholder expectations and improving engagement with sustainability issues.
In conclusion, AI and data analysis will be fundamental to advance in sustainable portfolio management, as they will offer a deeper insight, improve risk assessment, allow dynamic optimization, and facilitate personalized and compliant investment strategies. As these technologies continue to evolve, we can expect their role in supporting sustainable investment to increase, making them indispensable tools for investors aiming to achieve both financial returns and positive environmental and social outcomes.
