The principle of ‘sustainability’ means meeting the needs of the present without compromising the needs of future generations. The logic of investing with this in mind is that companies that treat their employees, suppliers and customers fairly, as well as having respect for the environment and local communities, have a greater chance of long term success and are less likely to fall foul of scandal or controversy – and ultimately punishment from regulators or rejection by consumers.
Stewart Investors Asia Pacific Sustainability applies this ethos to Asian stock markets. The managers aim to classify potential investment opportunities into one of three ‘sustainability sectors’: sustainable goods and services, responsible finance and required infrastructure. There is also significant emphasis on the quality of a business incorporating factors such as standard management, resilience of the financial position and the durability of a company’s business model and market position.
Just as Asia represents an essential building block in a portfolio, the principle of sustainability is vitally important to progressing global environmental and social goals. In just two years’ time, Asia is predicted to account for half of the world’s economic output, which compares to 30% in 2000. Its middle class has doubled in the past ten years and is expected to double again in the next decade, and it is home to eight of the world’s top ten most populous cities. The sheer weight of numbers means outcomes in Asia will be incredibly impactful.
Asia-Pacific is also home to many of the world’s greatest development challenges. According to the UN, 25% of the population still live in multidimensional poverty. While there are still plenty of companies that are part of the problems of inequality, water scarcity and climate change, there are also many purposeful companies in the region that aim to help address Asia’s development challenges. These are the investments targeted by the fund.
Sustainable investment has been a central part of the Stewart Investors team's ethos since veteran investor Angus Tulloch set up the Asia Pacific and Global Emerging Markets capabilities that underpin the current fund range in the 1980s. The philosophy and process are centred on the responsible stewardship of capital, and in the Stewart Investors Asia Pacific Sustainability Fund ESG factors are fully integrated into the investment process rather than being an ‘overlay’.
As well as being attracted to good-quality companies with excellent management and robust financials, the team’s focus on sustainability is formalised through the firm’s ‘Hippocratic Oath’. This includes the commitment to act in the interests of their clients and society, and declares they will allocate capital to companies “that are socially useful, that support and work within environmental system limits, and that have responsible business practices”. Sustainability is seen as a driver of returns, not a hindrance because it helps to identify opportunities and threats and to ensure the compounding of returns over the long term.
The managers aim to classify potential investment opportunities into one of three ‘sustainability sectors’: sustainable goods and services, responsible finance or required infrastructure. Quality is assessed through the lenses of quality of management, financials, notably the balance sheet, and the durability of its ‘franchise’. By analysing the sustainability performance and positioning of companies the team believes it can better measure the less tangible elements of quality and identify hidden risks.
Direct company contact is of critical importance in the assessment of sustainability and the team undertakes a significant number of company meetings every year. A concentrated portfolio of 40 to 60 stocks are chosen, which can increase risk. They do not implement a set negative screening system, whereby certain companies or whole sectors are automatically excluded on the basis of their areas of activity, but the process naturally leads them away from any controversial companies (such as in mining or tobacco) because of the sustainability challenges they face. However, it is worth noting that because it not a negatively screened fund, it may not be a consideration for those seeking a particularly strict ‘ethical’ approach.
The Stewart approach leads to some interesting portfolio traits, notably a heavy skew to family and founder-led businesses and very conservatively run companies with low levels of debt. It also leads them towards certain sectors (IT, consumer staples) and to certain geographies (towards India, away from China and South Korea). In our view, the managers have shown themselves to be genuinely benchmark ‘agnostic’, driven purely by their process and stock selection – something we tend to find attractive in an ‘active’ manager.
Recent fund activity, positioning and performance
The fund has slightly lagged its benchmark index, the MSCI AC Asia Pacific ex-Japan index, over the past year, though this is largely to be expected in a rapidly rising market given a rising market environment and the fund’s more conservative strategy. We would generally expect the fund to be more resilient in market falls and struggle to keep up in rises. The geographical bias to India over China and its small allocation to Japan have also not helped.
Key contributors included top holding Tube Investments and Mahindra & Mahindra in the Indian Consumer Discretionary sector, a large position to Tata Consultancy Services and Delta Electronics and heavyweight Taiwan Semiconductor in the Taiwan technology space. The team took the decision to sell Nippon Paint across all portfolios on the basis that it has successfully restructured, and the valuation had become overly expensive.
The fund remains heavily underweight in China, Hong Kong, Korea, Taiwan and Australia, focussing itself on India (42% weight) and off benchmark in Japan (9%). Around a quarter of the fund remains in stocks with a market cap of less than $5bn and its ‘active share’ is 90%.
Our view on the fund
We admire the manager’s discerning approach to investing in a region where it is easy to become over-excited about growth potential. To them, management quality and valuation discipline are the critical factors to consider for long term investment. This more conservative approach to selecting companies can help curb volatility in what is a high-risk area of investment. It also means the fund typically lags in a strong market environment but can ultimately lead to market-beating returns for investors over the course of a market cycle.
We also believe Stewart Investors has a genuine commitment to having a positive impact on society and the environment, evidenced by their dedicated sustainable funds site which includes ‘Stories of Sustainable Investment’ and an Interactive Map. Quarterly reports are provided for all their funds detailing their voting records, including resolutions they voted against. They are also active in promoting improved practices across industries, one example being targeting plastic collection and reduction in India through hosting a forum in Mumbai with leading companies.
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