Hamish Chamberlayne, Portfolio Manager for the Janus Henderson Global Sustainable Equity Fund, discusses recent developments affecting the world of Sustainable & Responsible Investment (SRI), and the Strategy’s positioning, performance and activity.
In the third quarter of 2019, global stock markets made little progress, with the MSCI World Index rising 0.1% in USD terms, although a strengthening US dollar resulted in modest positive returns for non-US investors. As expected, the Federal Reserve cut interest rates in July, and then again in September, but this only provided a short fillip to markets as the US/China trade war rumbled on and economic indicators related to manufacturing and employment weakened. Against this backdrop of deteriorating economic growth and interest rate cuts, the strongest performance came from the traditionally defensive sectors - utilities, real estate and consumer staples. The information technology sector also recorded a positive return. Underperforming sectors were energy, materials, health care, financials and industrials.
With regards to sustainability the news has not been any better. The UN released a report highlighting that, due to melting ice in polar regions, sea levels are rising faster than scientists had predicted. This is putting hundreds more millions of people at risk of extreme flooding over the coming decades. In South America, there has been a greater than 75% increase in the number of fires in the Amazon rainforest this year, with more than 40,000 fires reported in Brazil’s Legal Amazon area alone. It is estimated that more than 9,000 square kilometres of virgin forest have been lost. And in August, AON released its 2019 Insurance Market report, which found that natural disasters caused US$225 billion in economic losses globally in 2018 – the second highest year on record and 50% higher than the annual average between 2000 and 2017. The worst year on record was 2017 with US$358 billion of economic losses due to catastrophe.
One would have thought that these events would have galvanised the attendees at the UN Climate Action Summit in September to make more ambitious commitments towards decarbonisation but the reality is most countries’ pledges are still far short of what is necessary. And some of the largest carbon-emitting countries are still not making any firm pledges in respect of carbon reduction targets or timelines. This is why, this year, we have decided to make decarbonisation a central piece of our company engagement programme. We are engaging with our portfolio holdings regarding their carbon reduction plans and the timeline for reaching net zero emissions.
The Fund returned 3.4% in sterling over the period compared with a 4.0% rise in the MSCI World Index and a 2.4% rise in the IA Global peer group benchmark*. The Fund’s sector positioning had a neutral impact on performance. Some of the largest contributors and detractors came from investments in the information technology sector.
*Source: Morningstar, 1 July 2019 to 30 September 2019, I Acc, total return in sterling. Performance for other share classes and currencies may be different.
Past performance is not a guide to future performance.
Contributing to performance:
ASML (Knowledge & Technology) continued to perform well as a result of robust demand for its EUV (extreme ultraviolet lithography) systems and a more stable memory market. ASML is a global manufacturer of semiconductor microchip-making equipment and its mission is to invent advanced technology for high-tech lithography (transferring patterns or shapes onto silicon wafers), metrology (measurement) and software solutions for the semiconductor industry. This enables the advancement of ‘Moore’s Law’ towards ever smaller, cheaper, more powerful and energy efficient semiconductors, facilitating technological progress in a number of fields, including healthcare, technology, communications, energy, mobility and entertainment.
LAM Research (Knowledge & Technology) rose along with the broader semiconductor sector. Semiconductor stocks were strong in September as a result of a stabilisation of the memory market, in addition to positive industry commentary on Chinese demand for semiconductor equipment, dispelling fears that the US/China trade war is negatively impacting demand. LAM is a global supplier of fabrication equipment and services to the semiconductor industry. Nearly every advanced semiconductor chip is built with LAM technology and its products are essential in driving innovation in silicon, which is the foundation of all technological progress.
Equinix (Knowledge & Technology) continued its strong run after reporting results which were ahead of expectations and that led to management raising their full year guidance. Growth in EMEA and APAC regions was particularly strong and margins expanded as costs grew slower than revenues. Equinix is the world’s largest developer and operator of interconnected data centres, which are the backbone of the internet and a more connected world. Advances in the internet-of-things and artificial intelligence should lead to continued growth in demand for efficient and secure storage and transmission of data. Additionally Equinix has a goal of using 100% renewable energy to power its operations and therefore have a positive impact on lowering carbon emissions by enabling customers to move energy-intensive computing processes to the cloud.
Detracting from performance:
Autodesk (Knowledge & Technology) fell despite reporting excellent results ahead of expectations due to management making a small downward adjustment to its outlook. Full year guidance was lowered due to adverse FX and uncertainty in its manufacturing business. While Autodesk is not immune to a global growth slowdown, we continue to see a long growth runway and numerous self-help margin initiatives over the coming years, giving us conviction in the investment case. Autodesk is the global leader in design software used by architects and engineers. Its solutions empower customers to optimise the environmental and social impacts of their designs. This can encompass producing designs that dramatically reduce energy needs, provide resilient and environmentally sustainable infrastructure, or allow new approaches to product development and manufacturing.
AIA (Sustainable Property & Finance) underperformed due to the political situation in Hong Kong. While some of AIA’s business is dependent on Chinese visitors to Hong Kong it does have a well-diversified business across Asia. AIA is also growing in mainland China and recent regulatory change has opened up more local market opportunities. Insurance protection products in developing and emerging Asia are still relatively underpenetrated and AIA has a long runway for growth. The lack of a social safety net for many people across Asia underpins the need for health and pension products.
Gildan (Quality of Life) gave up some of its strong performance from the prior six months. We were surprised by this, given that it is very well positioned in respect of US/China trade tariffs, due its Central American manufacturing footprint. Gildan is a North American manufacturer of t-shirts and basic apparel renowned for its high social and environmental standards. Recently, it announced it is broadening its private label range for a key customer, Walmart. We believe Gildan is positioned to be one of the winners in the evolving apparel landscape. Its vertical integration enables it to produce high quality garments at very competitive price points and it has a dominant franchise in the print wear industry where it is supplying blank t-shirts and sports garments to screen printers.
Portfolio turnover was 1.2% in the third quarter of 2019 and 19.8% for the prior 12 months. This is slightly below our long term average of 20%-30%. Given all the macro-economic uncertainty, our aim has been to construct a balanced portfolio with well diversified, idiosyncratic risk. We have been careful not to have too much exposure to global industrial production and companies dependent on US/China trade. Much of our technology weighting is in software companies, where we see strong growth, 'utility like' business models with a high proportion of recurring revenues and minimal revenue contribution from China. Fund positioning remains skewed towards our Knowledge & Technology and Efficiency themes, resulting in our continued overweight towards the information technology and industrial sectors versus the index. The Fund remains underweight the energy and consumer staple sectors. The Fund is managed to keep regional weightings in line with the MSCI World benchmark while sector weightings are an outcome of where we are able to find the most compelling bottom up stock ideas while maintaining a balanced risk profile.
During the quarter, we initiated new positions in Avalara and divested our position in Cognizant.
Avalara (50% Sustainability Property & Finance, 50% Knowledge & Technology). Avalara is a provider of tax compliance automation software for businesses of all sizes. Its solutions enable companies to maintain accurate tax records and manage compliance documents. Taxation is one of the primary means of transmitting government policy and encouraging change and it has an important role to play in the transition to a more sustainable economy. Unfortunately, a high degree of regulatory complexity creates a significant burden for businesses and often results in poor compliance. Avalara’s mission is to provide solutions for this challenge, helping businesses implement, and comply with, new regulations and thereby support governmental policy and a just society.
Looking around the world, it is not hard to find causes for concern. Slowing economic growth, the ongoing US/China trade war and Brexit are heavy burdens on business and investor sentiment and we understand why many people are arguing for caution when it comes to equities. We are, however, becoming incrementally more constructive on the outlook for equities, especially those with superior growth characteristics. We have now had several quarters of industrial and manufacturing weakness and there are signs that the stock building cycle and industrial momentum may be close to bottoming. The semiconductor sector is often a lead economic indicator and in the last quarter we have seen evidence of stabilisation in memory prices with management teams commenting that they expect to see a recovery in 2020. The shift by central banks towards more accommodative monetary policy is highly supportive of growth equities and we still see substantial upside potential in many of our investments.
We have worked hard to construct a balanced portfolio with well diversified risk and exposure to resilient and idiosyncratic growth. While we are standing ready to add incrementally to investments that will benefit from a recovery in industrial production, we are mindful that there remains a lot of uncertainty. We have a significant allocation to companies with a high degree of recurring revenue, strong balance sheets and that are more insulated from global macroeconomic trends. We believe our sustainability framework helps us to navigate uncertainty, helping us to find investments with resilient growth characteristics that we believe can compound wealth through periods of economic turbulence.