Compass - January 2021
New Year, new lockdown – and with schools closed, homeschooling is back with a vengeance. But none of that will stop us sending you Spotlight! This month,
By Annabel Brodie-Smith
I really hope you are all keeping well.
Christmas was different this year but we definitely made the most of it. My brother couldn’t visit us which was sad for my 84-year old Mother and my in-laws have stayed in France for the whole pandemic as they don’t want to risk travelling. Nevertheless, we had a merry time and highlights included a jolly family Christmas quiz and some hilarious charades on New Year’s Eve.
Of course, we are now all locked down due to the recent surge in this super-infectious strain of the virus. We are longing for my Mother’s vaccine to come along and you know how much I don’t enjoy home schooling while juggling work. So far so good – no emails about my son’s missing maths homework - but it’s only day 3!
Despite this, we now have a Brexit deal and investment companies had a strong end to the year with the average company up an impressive 14% in 2020. The market is having a good week with the FTSE 100 up 3.5% on Wednesday. This was due to the prospect of Joe Biden launching a big stimulus package after the Democrats secured a ‘clean sweep’ of Congress and the White House, although seeing the violent siege of the Capitol was extremely distressing.
This month we have decided to focus on some of the investment trends that are likely to be prominent in 2021 and beyond. Ian Cowie, our investment expert, takes a look at three investment themes - green energy, healthcare and international income – which he expects to “prove profitable in 2021.” Ian has invested in investment companies to gain exposure to these three areas. It’s well worth reading his article to find out which investment companies he’s invested in and why he thinks these trends will continue to succeed.
Green energy was a dominant theme in the US election promises of Joe Biden and Boris Johnson announced “the green industrial revolution” in November. It was also key theme for the investment company industry in 2020 where investment companies investing in the Renewable Energy Infrastructure sector raised more money than any other sector. There were three new launches in the Renewable Energy Infrastructure sector raising £316m and the existing investment companies in this area raised over £1.5bn.
One of the companies in the Renewable Energy Infrastructure sector which raised money last year is SDCL Energy Efficiency Income Trust. It is the first investment company to specialise in energy efficiency. Jonathan Maxwell, the manager of the company, explains that 40% of the world’s energy is used in buildings but more than half of that energy can be lost or wasted. Energy efficiency measures can make up 40% of the required energy reduction to limit global warming to 1.5° centigrade. It’s really fascinating to hear more about their portfolio such as the onsite generation system in St Bartholomew’s Hospital in London. This system provides heat and power at an efficiency level of over 80%, whereas if the energy was drawn from the grid, it would have an efficiency level of below 40%.
Finally, Esther Armstrong takes a look at whether value investing has had its day. Growth investment strategies have performed well since the financial crisis whereas value strategies have struggled, but will this continue? If you need a quick reminder - there are two well-known investment strategies - value and growth. A value investment strategy is where a manager buys stocks at a significant discount to its intrinsic value, for reasons which are not justified over the longer term. A growth investment strategy is where a manager invests in growth stocks - younger or smaller companies whose earnings are expected to increase at an above-average rate compared to their industry sector or the market.
Whatever 2021 has in store and it’s already been eventful, I’d like to wish you all a healthy, happy and prosperous year.
Communications Director, AIC
Ian Cowie highlights three investment themes to prove profitable in 2021.
Political pundits may disagree but green energy, healthcare and international income are three themes this investor expects to prove profitable in 2021. Brexit has dominated headlines since Britain voted to leave the European Union (EU) on June 23, 2016. But, rather like a divorce, now the difficult deed has been done, I expect we will hear rather less about it in future.
By contrast, America, Britain and the EU have all set ambitious targets to reduce dependence on fossil fuels in the years and decades ahead. For example, Joe Biden, president-elect of the world’s biggest economy, has promised to spend $2 trillion stimulating renewable energy. Boris Johnson has enthused about a “green industrial revolution” in which Britain will become “the Saudi Arabia of wind”. Next November, Glasgow will host the United Nations climate change conference on how to implement the Paris Accord on cutting carbon emissions.
Coming down from the clouds, investment companies are the ideal way for individual investors to gain exposure to this global macro-economic theme. Unlike open-ended pooled funds, closed-ended funds - such as investment companies - can hold illiquid assets without needing to worry about having to turn them back into cash in a hurry.
For example, this small shareholder now has professionally-managed exposure to solar energy, wind farms and industrial-scale batteries via three investment companies. They are Ecofin Global Utilities & Infrastructure (stock market ticker: EGL); Gore Street Energy Storage (GSF) and US Solar Fund (USFP); the latter two being additions to my portfolio during 2020. While returns are not guaranteed, going green doesn’t have to mean investors must rely on receiving ‘jam tomorrow’. According to independent statisticians at Morningstar, EGL generated total returns of 25% over the last year, while GSF offers a dividend yield of 6.6%.
Sad to say, one reason governments around the world are now committed to cleaning up and pumping less pollution into the air is a respiratory disease which the World Health Organisation reports has killed 1.8m people. More positively, investors can contribute to the war against the coronavirus by helping to fund research into vaccines and other medical treatments.
Massive sums of money are required. For example, the American pharmaceutical giant Pfizer said it committed $2bn to create the first coronavirus vaccine in co-operation with the German biotechnology company, BioNTech. This small shareholder knows next to nothing about the science involved but is happy to fund better medical outcomes via investments in International Biotechnology Trust (IBT) - another 2020 addition to my ‘forever fund’ - and Worldwide Healthcare (WWH), in which I have invested for more than a decade. Morningstar reports IBT generated total returns of 36% last year, while WWH delivered 20%. Interestingly for investors preparing to pay for retirement, IBT also offers a dividend yield of 3.5%. That is noteworthy while the Bank of England base rate remains frozen at 0.1% and more than half the corporate constituents of the FTSE 100 index of Britain’s biggest shares cut, cancelled or deferred their dividends last year.
Investing internationally is an effective way to diminish the risk of dividend disappointment. Income-seekers enjoy a wide range of investment companies offering attractive yields, regardless of whatever happens to Britain or Brexit. Two I hold include Henderson Far East Income (HFEL), yielding 6.9%, and JPMorgan Japan Small Cap Growth & Income (JSGI), yielding 3.2%.
Because investment companies can smooth out the shocks of the stock market by retaining some returns in good years to top-up payouts in bad years, many of these investment companies have sustained rising dividends for more than a decade. However, it is worth emphasising that dividends are not guaranteed and the price of a high income today can be low or no total returns tomorrow. For example, HFEL has delivered inflation-busting dividends which helped me enjoy tax-efficient income from my ISA over many years but a disappointing total ‘return’ of minus 4% last year. By contrast, JSGI’s more modest yield can be seen in the context of a total return of 43% over the same period.
If the difficult year of 2020 taught investors nothing else, it is that none of us has 20/20 vision about the future. However, Deo volente, this small shareholder expects to continue investing in green energy, healthcare and international income via a portfolio of investment companies for many years ahead.
How SDCL Energy Efficiency Income is benefitting from reducing energy wastage.
Jonathan Maxwell, CEO of Sustainable Development Capital, the investment manager of the SDCL Energy Efficiency Income Trust plc
2020 saw a fundamental shift in the prioritisation of green policy and the clean energy transition. Key policy initiatives and the commitment of vast sums of capital from leading government bodies around the world will aid the financial recovery and are critical steps forward in tackling climate change. These climate goals cannot be achieved through supply side measures alone. Reducing the size of cake has become key.
Forty percent of the world’s energy is used in buildings, but more than half of that energy can be lost or wasted in poor generation, transmission, and distribution systems. Those losses account for about a third of global greenhouse gas emissions and, as a result, the International Energy Agency says that energy efficiency measures can make up forty percent of the required energy reduction to limit global warming to 1.5° centigrade. This is the sector in which SDCL Energy Efficiency Income Trust Plc (SEEIT), the first UK-listed investment trust to invest exclusively in energy efficiency, specialises.
SEEIT floated on the London Stock Exchange in December 2018, introducing the opportunity to invest in energy efficiency projects to the public and raising £100m. There has been growing appetite from investors for our offering. Since our IPO, we have raised an additional £441m in subsequent fundraisings from a broad range of investors keen to invest in a strategy that delivers an attractive income stream by providing businesses with sustainable energy solutions, while reducing their costs in the process.
SEEIT has acquired and manages a portfolio of assets across the UK, Europe, and North America that delivers a diverse range of energy efficient solutions directly to end-users in return for long-term contracted income. Some projects provide cleaner, cheaper and more reliable energy directly to the point of use through onsite energy generation, e.g. through solar panels or combined heat and power plants – thereby avoiding losses in transmission and distribution from the grid. Others reduce energy waste on the demand side, for example retrofitting a building with more efficient LED lighting, air conditioning, insulation or building controls.
For example, our onsite generation system in St Bartholomew’s Hospital in London provides heat and power at an efficiency level of over 80%, whereas if the energy were drawn from the grid, its energy would have an efficiency level of below 40%. We have also installed rooftop solar power panels across Tesco’s estate, again bypassing the grid and providing more efficient energy directly to the point of use. Recently, we have also invested in the roll-out of an electric vehicle charging network, acquired a biogas distribution network in Stockholm and invested in one of the largest commercial and industrial solar portfolios of its kind in the United States.
In addition, we have a portfolio of industrial cogeneration projects in the United States, where waste flue gases and heat from steel production, that would otherwise be polluting the atmosphere, are recycled into turbines, producing power for the steel mills and the surrounding site. The portfolio generates around 298MW of energy but earns renewable energy certificates equivalent to 536MW of solar power production, due to its waste reduction.
SEEIT’s portfolio has continued to perform robustly throughout the hugely challenging Covid crisis, reflecting the nature of the essential service our projects provide to clients.
With the prospect of a renewed commitment to environmental policy in the United States from the incoming Biden administration, as well as recent commitments by the UK government and the EU, we expect 2021 will see even greater momentum for greening the economy. We have an exciting pipeline of opportunities for SEEIT to invest in and we will look to continue to expand and diversify the portfolio. These projects will help us achieve our shared net-zero goals while delivering long-term, reliable income to our shareholders.
Has value had its time?
Esther Armstrong tackles the age-old debate.
Cavalier references to the rivalry between growth and value investment styles are 10 a penny. Whether along the vein of “Growth versus value: Which style will dominate?” or, more recently, “Is it value’s time to shine?”, preoccupation with the two investment camps can reach fever pitch at important junctures in global markets.
This was certainly the case in November when positive news on potential Covid-19 vaccinations, confirmation of Joe Biden’s victory in the US election and hopes for a successful Brexit deal all combined to bring about a significant market rotation. At the time, collective market optimism was so powerful that six months’ worth of growth gains over value were wiped out in a single day, according to Barry Norris, chief investment officer at Argonaut Capital. Unloved sectors such as airlines and more cyclical sectors such as financials and oil and gas led the ‘recovery rally’.
The irony is that value investors are by nature pessimists, says Tom Stevenson, investment director for personal investing at Fidelity International. This means when positive news kicks in, their portfolios are likely to benefit because they planned for the worst. He explains: “There is a temperamental difference between a value investor and a growth investor. A value investor assumes things are going to go wrong, therefore does not want to overpay. This means if things are no better than their worst fears, it is reflected in the price and they have not paid too much. Growth investors assume there are lots of opportunities out there and things are going to be ok, which means it is ok to ‘pay up’ because in the long run the price will be justified.”
Another irony is that growth companies tend to do well in a low-growth world such as we have been in since the global financial crisis in 2008/09. This is because they can grow at a rate faster than the world around them, which is particularly attractive to investors when interest rates are on the floor. Indeed, if you had invested £100 in value shares 10 years ago, it would now be worth £214, while the same sum would amount to £386 if it had been invested in growth shares over the same period.
Entering the thirteenth year of the growth rally, investors are right to question how much longer it can be sustained, says Tim Cockerill, investment director at Rowan Dartington. “There is a risk in a long rally that investor money congregates in certain areas – we know that and can see it. This mindset can take time to change, which is why it is important to keep your portfolio balanced in terms not only of asset classes and geographies but also investment styles. I generally have 85% allocated to a growth slant and 15% to value.” He doesn’t expect any value rally to match the length of this most recent growth rally, but can foresee a situation where valuations are redressed and investor money is recycled from expensive growth stocks into value areas.
As market participants jostle to work out which style will dominate in 2021, investors can expect to see increased volatility, says Mark Harris, chief investment officer of Garraway Discretionary Fund Management. “While we can see a path to better growth and further rotation towards more cyclically orientated sectors, we also believe Covid-19 has wrought dramatic acceleration to a longer-term secular shift. This means numerous sectors now defined as ‘value’ have been and will remain challenged.” When it comes to investment trusts, Cockerill cautions against associating value solely with those on a discount. As an example, he points to Fidelity Special Values, which was trading at its net asset value as of 18 December 2020. “Although the trust does not offer investors a discount, the underlying companies do give exposure to a value investment approach.”
Simon Elliott, head of research at Winterflood Investment Trusts, says several trusts focused on the UK have a value-orientated approach. These include Fidelity Special Values and Aurora Investment Trust in the UK All Companies peer group, Aberdeen Standard Equity Income and Temple Bar in the equity income sub-sector, and Aberforth Smaller Companies in the UK Smaller Companies sector. He believes not all value approaches should be treated equally: “While value-orientated investment trusts might be expected to benefit from the positive impact of the rollout of vaccines for Covid-19, it is worth noting those exposed to more cyclical and economically sensitive companies have seen the biggest bounce so far. Trusts with a high exposure to areas such as banks or utilities are unlikely to participate to the same extent initially.
“Indeed, one of the arguments for a rotation into value is the thesis that increased government spending will create inflationary pressures and eventually rising interest rates. [Generally, rising interest rates denote a stronger economic backdrop, which supports value stocks, while in a low interest rate environment growth stocks tend to prosper.] While we might eventually see some inflation, it’s difficult to envisage it being a factor in the next few years.”
Value will have its day again, but when that is and how long it lasts remains to be seen.