Can Liquid Strategies be Additional?

    Stockholm (NordSIP) – As the term Additionality continues to gain traction and understanding, we sat down with Henrik Hofmann-Fischer (pictured left), Head of Sales, Nordics and Rupert Welchman (pictured right), equity fund manager at Union Bancaire Privée (UBP) and joint manager of the UBP Positive Impact Equity Strategy together with Victoria Leggett, Head of Impact at UBP. We tried to understand how he and his team consider the additionality of listed public investments.

    “Everyone and every asset class has a role to play in advancing the sustainability agenda,” starts Welchman. “If an impact fund buys a listed equity share from a non-impact investor, that is a step forward, because that share is now owned by someone who cares and who is going to engage and vote in certain ways. This collaboration is better than the status quo.”

    Additionality explained in the frame of value creation

    “UBP is not in the market of altruistic gestures. While this is true of the whole investment world, the goal of a traditional Swiss family-owned private bank like ours is to make money for its clients, and that is still their predominant motivation,” Welchman says. “We wanted to have a framework to incorporate the notions of value creation within the architecture of the UBP Positive Impact Equity Strategy. Our framework includes four dimensions: Intentionality, Materiality, Additionality and Potentiality (IMAP). Additionality and Potentiality, for our process, are the aspects that drive the traditional investment product side. In a way, they cross-fertilise.”

    Additionality has different connotations for different protagonists within Impact Investing. To us, within the framework of our investment approach, the term is about the scarcity and a company’s contribution to the solution of the bigger problem. How rare is this company’s product? If the company disappeared, would that solution disappear too? We believe that additionality is linked to the potential of the product, which is about the ultimate size of the revenue base. The two are reflections of commercial evolution,” the fund manager explains.

    “The two other dimensions of the IMAP, intentionality and materiality, provide an ethical perspective. How courageous have you been today to pivot your business towards this new and better solution, and how much does this positive solution represent as a percentage of your total business? We believe that combining these four perspectives is the right way to design a savings product in listed equities that aims to generate positive impact.”

    Driving impact through engagement

    “We go a step further. At the core of everything we do in listed equities is the engagement we have with our companies,” he adds. “Take, for example, Hexagon Composites, which is a Norwegian company with a strong position in the carbon fibre low-pressure cylinders’ industry¹ with €800 million in market capitalisation. In terms of intentionality, this company is 100% there. Generally speaking, they are an important part of the journey towards displacing fossil fuels,” Welchman explains.

    However, even these companies can miss opportunities, according to the fund manager. “When we asked Hexagon Composites for the measurements we needed to disclose in our fund, they were unprepared because no other investor had ever asked. Now they are hoping to have more non-financial KPIs than financial ones,” says Welchman. “Eventually these KPIs can serve as a blueprint that other companies in the same industry may use to explain how they make an impact. What gets measured gets done. This is how listed equities can become an engine of impact investing and additionality.”

    Impacting the Cost of Capital

    “By encouraging people to buy companies that have a positive impact, you are contributing to a decrease in their cost of capital and helping them access more funding. This is the reverse of exclusionary strategies which, by displacing capital, aim at increasing the cost of capital for poor ESG companies,” argues the fund manager. “We are at the beginning of a trend in rising cost of capital for fossil fuels and tobacco, for instance.”

    Welchman’s view is informed by his own professional experience. “When I started in the market, I was the tobacco analyst at Threadneedle in 1999. At the time, BAT traded on three times cash-flow. It could repurchase its entire enterprise value with three years-worth of cash-flow, which equates to a cost of capital of 33%. Progressively, the industry turned around, and a couple of years ago, the cost of capital reached 4-5%. Since then, the stock price fell back, and the tide has clearly changed due in large part to exclusions,” he explains.

    “I don’t think this tide will ever reverse course. There are these long cycles, and if we are on the cycle of alternative fuels, the cost of capital for wind turbine or solar power cell manufacturers is falling. The cost of capital is on a demonstrable, observable pro-sustainability trajectory, in the same way, that you can only see climate change over long periods,” the fund manager concludes.

    ¹ Hexagon is present in both low-pressure cylinders which are used in emerging markets as storage for the primary source of cooking fuel, and in high pressure used for vehicles using biogas, LPG and hydrogen as their energy source.

    Picture © NordSIP

    Aline Reichenberg Gustafsson, CFA
    Aline Reichenberg Gustafsson, CFA
    Aline Reichenberg Gustafsson, CFA is Editor-in-Chief for NordSIP and Managing Director for Big Green Tree Media. She has 18 years of experience in the asset management industry in Stockholm, London and Geneva, including as a long/short equity hedge fund portfolio manager, and buy-side analyst, but also as CFO and COO in several asset management firms. Aline holds an MBA from Harvard Business School and a License in Economic Sciences from the University of Geneva.

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