Uncovering eco-trends opportunities

Bozena Jankowska, a portfolio manager and head of the Sustainability Research Team at investment firm RCM, shares her views on the growth potential of the eco-trends universe. RCM is owned by
Allianz Global Investors.

How is investing in eco-trends different from investing in other sectors?

It is becoming increasingly apparent that our ability to continue to grow our economies and sustain our quality of life remains at risk if we don’t re-evaluate our consumption patterns. Environmental pollution is no longer a local issue — climate change will have a global impact. At the same time, the geo-political landscape has changed markedly over the last few years, bringing with it new risks such as terrorism, energy security, oil possibly reaching $100-a-barrel and demographic shifts. These risks put further pressure on political, economic and environmental stability, in response to which governments are developing policies that move us closer to higher environmental standards. On the back of all this, we are seeing the emergence of new industries and technologies, such as wind, solar, water treatment, energy efficiency and pollution control.

But what I’m particularly enthusiastic about, and believe is different from other types of investments, is that eco-trends is one of the few sectors where, for the most part, both public and political support is lined up in the vision that action needs to be taken sooner rather than later. To my mind, this can lay the groundwork for great investment opportunities. I believe legislation will continue to tighten, technology boundaries will continue to be pushed and widely adopted. The great thing is, we’re only just at the beginning.

What constitutes a good eco-trends investment opportunity?

I look for a number of qualities in a company: differentiation in its technology, a clear road-map toward commercialization, high barriers to entry, leading market position, sustainability of earnings, quality of management and a supporting legislative framework.

How should an investment in an eco-trends product fit into someone’s portfolio?

I view eco-trends as a longer term investment, since we are still at the beginning of the growth trajectory for a number of the eco-trends subsectors. There are also diversification benefits. Historically, this universe has been an asset class in its own right, having little correlation to oil, commodities or broader markets. To be sure, an eco-trends investment would fit into the higher risk category, because of the early-stage nature of some holdings and industries. However, this can be balanced to some extent by the potential for above-average returns from fast-growing companies and sectors, supported by strong secular trends and fundamentals such as legislation.

How far has the eco-trends market come since RCM began investing in the sector and how significant do you believe it will become?

According to the United Nations Environment Programme (UNEP), alternative energy investment was $70.9 billion in 2006 — an increase of 43% over 2005. These trends have continued through the first half of 2007, with global new investment in alternative energy expected to total $85 billion for the year. Renewable energy also accounts for a far more significant share of power generation investment ($25.5 billion, or 18%) than it does of installed capacity (2%). That capacity should take an increasing share of the power sector, as additional billions in investment in technology and manufacturing feeds into it. In other words, the levels at which the investment community has been investing in these technologies implies that there may be a disruptive shift in the energy sector. What’s more, as more conventional investors continue to inject capital into the eco-trends markets, renewable energy and energy efficiency move beyond being niche sectors only promoted by governments and environmentalists.

Can individual investors reasonably align their personal interests in going green with their investment goals?

Yes. Every investor wants to preserve and even improve his or her quality of life. The state of the environment is one contributor to that. We all want to breathe clean air, drink clean water and not be worried about how climate change may compromise our lives and the lives of our children. Investing in eco-trends sectors gives people an opportunity to help play a role in supporting technologies that may help to solve many of our global environmental problems, while at the same time potentially making money.

What kinds of climate-change technological improvements are you seeing?

These are many and varied, and include: increased efficiency in solar conversion to electricity; offshore wind power, using turbines with almost five times the power of their onshore counterparts; wave power, where the winning technology is yet to be identified; and incorporation of Building Integrated Photovoltaics (BIPV) in the construction of new homes, where your windows and roof slates will be able to produce electricity. There’s increasing talk about carbon capture and sequestration, which will allow power stations that currently run on coal or gas to capture carbon from the combustion process and store it underground. On another scale is micro generation, where you will have the ability to generate your own electricity and heat from fuel cells technologies. Progress is also being made on the energy efficiency front, from being able to monitor in real time how much electricity you’re using and how much it’s costing you, to super conductors that enhance and improve the efficiency of electric transmission along power lines. Great promise lies in second-generation biofuels that don’t compete with food supplies. The list goes on and on and they’re taking place on a global basis.

What kind of impact can capital markets have on our ability to combat environmental problems?

Investment in the environmental sector provides companies with funds, enabling them to invest in their research and development and eventually move their technologies from the lab to the commercialization stage. Interestingly, with the growing focus on environmental protection, even large blue-chip companies are investing in their environmental business practices because they’re starting to realize that the market is placing a real value on them. What we’re really seeing is a paradigm shift, where environmental products or services are starting to move from the realm of corporate social responsibility and a niche activity to a business that may generate significant future revenue streams. Examples include General Electric’s Ecomagination program or Applied Materials’s roll-out of their solar business.

Eighty-four percent of survey respondents said that business profitability will increasingly be linked to resource sustainability issues. Do you agree?

Yes, absolutely. It really is a no-brainer that waste, any type of waste, in a business costs money. Finite resources such as oil, metals and even fresh water will become scarcer and more expensive. If businesses do not become more efficient in their use of these resources, costs can mount and ultimately impact the bottom line. This goes beyond just wanting to do good. It ultimately comes down to good business sense.

 

This article contains the current opinions of the manager, which are subject to change without notice. It does not represent a recommendation of any particular security, strategy or investment product. This article is distributed for educational purposes and should not be considered investment advice.

An investment which focuses its holdings on eco-sectors such as eco-energy, pollution control and clean water will be more affected by positive or negative events affecting these sectors than a more diversified investment. Companies in eco-sectors may be particularly susceptible to factors such as environmental protection regulation, international or political developments, changes in government subsidy levels, conservation practices and tax policies, for example. Eco-sectors are newly developing and strongly influenced by rapid technological changes, which can render an existing product obsolete. Many eco-sector companies may have limited operating histories and smaller-market capitalizations, making their stock prices particularly volatile. Their stocks may also be less liquid investments than those of larger, more established companies.

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