Liontrust Sustainable Future Cautious Managed (OEIC/Unit Trust)
SRI / Ethical Overview
Funds within the Liontrust Sustainable Future Fund Range are typically concentrated portfolios of approximately 50-70 stocks that seek to generate outperformance through superior stock selection. Using their own research, the Sustainable Future team aims to buy attractively valued sustainable and responsible companies who appear to be undervalued by the market - usually due to a product or service offering benefiting from strong environmental or social trends, or due to superior company management as evidenced by their performance on environmental, social and governance factors.
SRI Policies (Primary strategy in bold)
- Environmental policy Find investment funds with environmental policies - ie that consider issues such as pollution, climate change, resource management, environmental impact. This will include options from all of the different SRI Styles, including funds where their core strategy is to focus on other areas such as ethical funds. See fund information for fund specific policy details.
- Health & wellbeing policies Find ethical or sustainable investment fund options that have a policy which supports (ie aims to invest in) companies that are viewed as offering positive lifestyle, health or wellbeing related benefits.
- Limits exposure to carbon intensive industries Find environmental, sustainable investment, ethical fund and other options that aim to significantly reduce or limit exposure to carbon intensive industries (ie sectors which are major contributors to climate change). Funds vary - strategies may involve excluding sectors such as coal, oil & gas, mining or airlines - or may indicate a 'best in sector' approach is taken. See fund literature for details.
- Measures positive impacts Find funds that measure the positive effect of their investment decision making on society and/or the environment. (This may involve eg carbon saved or jobs supported.) Managers aim to quantify the benefits they deliver (relative to other strategies or other benchmarks) to ensure they are delivering positive benefiting. This is a new and evolving area. See fund literature for information
- Sustainability policy Find fund options that consider issues relating to the sustainability agenda (e.g. resource management, environmental impact, climate change and/or social issues such as equal opportunities, human rights and adherence to recognised codes). This will include funds from all of the different SRI Styles. See fund information for explanations of the different strategies.
- Ethical policies Find funds with 'traditional' ethical investment policies. These typically focus on avoiding companies that are involved in the armaments industry, tobacco, gambling and/or pornography. Options will include funds where their core strategy or style may be to focus other issues - like sustainability or the environment, not just 'ethical funds'. Strategies vary significantly. Check fund literature for details.
- Social policy Find fund options that consider social issues (e.g. human rights, labour standards, equal opportunities, child labour and adherence to internationally recognised codes such as the UN Global Compact). This will include funds in most of the different SRI Styles as this is considered a core issue. See fund information for detail.
- Governance policy Find fund options that have policies that relate to corporate governance issues such as board structure, executive remuneration, bribery and/or corporate corruption. These funds will typically avoid companies with poor practices.
- Animal welfare policy Find ethical fund options that have policies that require specific animal welfare standards to be adopted by investee companies in order for them to be considered for inclusion within the fund.
- Nuclear exclusion policy Find ethical funds (and other options) that have a published policy that sets out the fund's position on avoiding or limiting exposure to nuclear power. See fund literature for details of their policy.
- Animal testing exclusion policy Find ethical investment options that avoid companies that are involved in testing their products on animals. Ethical fund strategies vary - some exclude all companies that test on animals, others allow companies that test for medical purposes or where required by law. Read fund details for fund specific information.
- Tobacco production avoided Find fund options that exclude manufacturers of tobacco (or related) products. This typically relates to ethical funds however funds from other SRI Styles commonly avoid this area also. Strategies vary and funds may invest in retailers of such products (e.g. supermarkets or hotels.) See fund information for further information.
- Armaments manufacturers avoided Find ethical fund (and other SRI) options that avoid avoids companies that manufacture products intended specifically for military use. Fund strategies vary - particularly with regard to non strategic military products. Read fund literature for specific details.
- Coal, oil &/or gas majors excluded Find sustainable investment and ethical fund options that avoid significant involvement in coal, oil and/or gas producing companies. Funds vary. See individual fund literature to confirm details.
- Climate change / GHG policy Find sustainable investment and ethical fund options that pay significant attention to climate change related issues such as greenhouse gas/carbon emissions. Strategies vary, see fund literature for individual fund information.
- Invests in clean energy/renewables Find ethical, sustainable investment and other environmentally aware fund options that aim to invest in companies in the clean technology and renewable energy sectors. Fund strategies vary. Some funds may have limited exposure to this area, others may have significant exposure. Check fund literature for details.
- Fracking and tar sands excluded Find fund options that avoid companies involved in fracking and tar sands - which are widely regarded as more controversial methods of oil and gas extraction.
- Pornography avoidance policy Find ethical fund option - and in some cases other options - that avoid companies that derive significant income from pornography. See fund details for further information.
- Human rights Find funds that consider human rights practices when approving companies for investment. Such funds will require decent standards of human rights to be demonstrated - which typically means adherence to international norms as a minimum standard.
- Positive selection bias Find funds where their main 'ethical approach' is to invest in companies that are considered to be positive/good or useful to people and/or the environment. The fund may also have negative avoidance criteria - see fund details to read more about fund strategies.
- Negative selection bias Find funds where their main 'ethical approach' is to avoid companies by using negative screening criteria. Read fund literature for further information.
- Balances company 'pros and cons'/best in sector Find ethical funds and other options that consider both the 'positive' things companies do and the 'negative' things they do in order to make balanced, often complex decisions about where they might invest. Such funds often invest in the best/most ethical companies across most industries ('best in sector'), rather than excluding entire sectors. The fund manager may combine this with 'responsible engagement' activity to encourage better business practices. See fund literature for specific policy explanations.
- Sustainability themed Find funds where there is a significant emphasis on sustainability issues either as its primary strategy or as a core strategy that compliments other criteria. (This may apply to a number of different SRI Styles). Such funds will consider environmental and social issues when making stock selection decisions. Read fund literature for further information.
- Favours cleaner, greener companies Find funds that aim to nvest in companies with strong environmental policies and practices. This may mean it invests in smaller companies offering market leading environmental services or products and/or larger companies that are working towards the improved management of their negative impacts. Read fund literature for further information.
- Favours companies with strong social policies Find funds that invest in line with positive strategies that relate to 'people' issues - such as having strong human rights, labour standards and equal opportunities practices. Such funds are likely to invest in companies that have market leading standards with regard to employee and supplier practices. Read fund literature for further information.
- Strictly screened ethical fund Find funds that have a high level of negative ethical avoidance. These funds are likely to exclude more companies than other ethical (and SRI) fund options. Read fund literature for further information.
- Aims to generate positive impacts Find funds that aim to help deliver positive social or environmental impacts or outcomes through their investment decisions - which typically involves holding companies that are viewed as being necessary or beneficial. Strategies and approaches vary. A small number of funds have recently started to measure outcomes (see 'Measures Impacts' in the Policy filter). This is a new area - so most funds do not do this yet. See fund literature for further information.
- Available via an ISA Find funds that are available via a tax efficient ISA product wrapper
- Clean energy themed Find funds that in clean technology / clean energy companies. See fund information for further details.
- ESG/SRI engagement Find funds and fund management companies that actively encourages higher 'environmental, social and governance' and/or 'sustainable and responsible investment' practices amongst investee companies - when positive change is aligned with the best interest of investors. This may apply to a single fund or a group of funds. Read fund literature for further information.
- Integrates ESG factors into all/most fund research Find fund management companies that research environmental, social and governance (ESG) issues when deciding whether or not to invest in a company. This typically applies to all funds, not only those which are promoted as being 'ethical' or 'SRI themed'. This is increasingly often used as a risk management tool.
- Vote all* shares at AGMs/EGMs This fund manager votes or aims to vote all* the shares they own at Annual General Meetings and Extraordinary General Meetings. A commitment to voting shares is a key indicator of 'responsible share ownership' - where fund managers consider - and express their views on - the key business issues effecting the companies they part own. (*Allowance is made for exceptional situations such as when shares are in the process of being sold.)
- In house responsible ownership/voting expertise Find fund / fund management companies where there is in-house expertise that enables the fund manager to make their own decisions on issues such as shareholder voting, setting of in-house guidelines - for example - particularly with regard to environmental, social and governance (ESG) issues.
- Responsible Ownership/ESG a key differentiator The fund managers have said they consider this area to be a key differentiator for their business
- UK Stewardship Code signatory Find fund managers that are signatories to the FRC UK Stewardship Code, which sets out a framework for constructive investor / investee relations where fund managers are encouraged to behave as responsible 'company owners'.
- Publish Responsible Ownership/Stewardship report Find fund management companies that publish information on their approach to responsible investment ownership - also known as 'Stewardship' - following the introduction of 'the Stewardship Code'. This sets out their approach to voting, dialogue with company management and any related activity. This is publicly available.
- Publish full voting record Find fund management companies that publishes a full record of how they vote at AGMs and EGMs. This information is publicly available.
- Review(ing) carbon/fossil fuel exposure for all funds Find funds / fund managers that are reviewing or have reviewed their exposure to carbon intensive industries including (but not only) mining, oil and gas companies. This work is being carried out in the context of climate change related concerns, and may often reference international agreements.
- Regularly lead collaborative ESG initiatives Find funds managed by fund management companies that regularly initiate or help run industry wide (collaborative) investor projects aimed at raising environmental, social and governance standards amongst investee companies.
- PRI signatory Find fund management companies that have signed up to the UN backed 'Principles of Responsible Investment' initiative.
- Boutique/specialist fund manager Find options offered by smaller, more specialist fund management companies with a significant (or entire) emphasis on sustainable, responsible, ethical, ESG or responsible ownership related investment strategies. Note - strategies vary significantly. Check fund manager supplied links for further information.
SRI / Ethical Policy
We have identified 22 positive, structural investment themes or trends, which help us find areas of growth across the economy. We get our investment ideas by analysing these themes as they represent potentially interesting areas to invest in and generate good investment returns. These investment themes are grouped into three broad categories which help society to:
· Use finite resources more efficiently;
· Live healthier and higher quality lives;
· Be safer or increase the resilience of systems that we all rely on.
A brief explanation of each of these investment themes is laid detailed below:
Improving the efficiency of energy use - We see many ways of making energy cheaper by reducing waste while also reducing emissions through more efficient use of energy. This cuts across many areas of the economy and includes building insulation, efficient lighting, energy efficient climate control, travel and industrial processes.
Improving sanitation and access to clean water - Water is essential for life. Companies that can manage waste water treatment, or produce products or services that can improve the efficiency of water distribution, are vital and in demand. Sanitation is a first line of defence from disease, much of which comes from contaminated water. We like companies that improve sanitation and give affordable access to clean water.
Increasing electricity generation from renewable sources - Substituting coal intensive fossil fuel electricity generation with renewable power sources reduces carbon emissions as well as providing a cost effective means in some off-grid situations to connect people to cheaper more reliable power sources.
Improving industrial processes - We like companies providing products or services that help make industrial processes more resource efficient, as well as safer for workers and users. These improved industrial processes help reduce the negative impacts on people and the environment and are making a positive contribution. We see investment opportunities in software and systems that help implement life-cycle design (including disposal of products), help manage supply chains as well as opportunities in automation of factory processes to remove repetitive or dangerous mechanical tasks as they all help modernise and improve industry.
Increasing waste treatment and recycling - Resources are finite and the UN Environment Programme (UNEP) estimates we recycle as little as 25% of global waste. We need to increase the amount of waste recycled and design products with end of life in mind (made easy to break down and reuse / recycle). Companies that can process and recycle waste are generally set to benefit from this trend.
Accelerating the transition to lower carbon fuels - Companies that provide services or equipment, particularly in upgrading the power grid network to be able to deal with changing production and consumption patterns of electricity are an important requirement to achieve affordable clean energy.
Improving the fuel efficiency of cars - Companies that produce equipment that increases the fuel efficiency of cars are set to benefit from structural growth (higher than that of the autos industry) by helping meet tightening global regulations to increase fuel efficiency in cars.
Making transportation more efficient - Urban transport systems are improved by reducing congestion as well as transport emissions (which make the local air quality toxic) as the mode of transport shifts from self-driven cars to public transport systems such as trains, tubes and buses.
Health and Increased Quality of Life
Providing affordable healthcare globally - Companies that help deliver affordable, positive patient outcomes in managing disease help achieve this goal.
Delivering healthier foods - There is a trend in the food industry where consumers are changing their preferences and demanding healthier foods. We have identified companies that provide reformulation services to change the recipe of foods to make them healthier (less fat, sugars and salts) while maintaining the taste. These companies are a beneficiary of this demand for healthier food as their customers (many of which are the big incumbent food producers) respond to changing consumer preferences and use their reformulation services. This improved diet has positive health impacts. For example, it can help reduce non-communicable diseases such as obesity and cardio-vascular disease.
Building better homes - Shelter is a basic human requirement and companies that build quality affordable homes are helping to provide this.
Providing education services and content - Education brings massive benefits including longer life expectancy, increased job opportunities, higher economic growth as well as leading to overall higher satisfaction in life. Companies providing education services provide vital knowledge and skills which help educate and improve people’s lives.
Enabling innovation within the healthcare system - Companies whose products or services help promote innovation within healthcare are helping achieve this goal. They do this by either coming up with new, more effective ways to treat diseases (creating a significant step change in the mechanism used to treat a given disease), or by providing essential equipment or services for biotechnology research (such as specialist measuring equipment, genetic sequencing equipment or high quality consumables for research) or software to help make treatments more effective.
Enabling healthier lifestyles - Companies that promote healthier lifestyles, principally through increasing physical activity, help improve health. These include gym operators and companies providing sports clothing and equipment.
Connecting people - We believe access to easy communication tools and the ability to access information, increasing amounts of which are online, is a positive requisite in a more sustainable economy.
Safety and Resilience
Improving auto safety - We have identified companies whose products improve the safety of travel and reduce road traffic accidents, principally through active safety, which involves collision avoidance, active breaking and semi-autonomous driving. We concentrate on the specialist companies making the kit to improve safety (or reduce emissions) rather than the car manufacturers which we believe are challenged to meet tightening regulations to improve safety as well as reducing emissions.
Increasing financial resilience - We believe a resilient financial services sector is necessary for economic well-being through utility-like provision of banking, lending, and effective ways of appropriately saving for the future as well as mitigating risks through insurance. This does not mean any company in the financial sector is automatically investable, but we do see positive ways that these companies contribute to society when appropriately and proactively managed.
Enhancing digital security - As more and more of our lives and critical services are carried out online, we need to protect the data from theft. Digital security helps make this growing area of the economy secure.
Making food production sustainable - The current industrial agricultural system, while able to produce huge quantities of food, also uses huge amounts of resources (land, water and inputs) as well as having meaningful negative externalities that need to be managed. Companies that help make this system more sustainable by using smarter farming methods that reduce these negative externalities represent a potentially interesting investment opportunity.
Reducing pollution from cars and industry - Pollution from industrial processes needs to be minimised to improve our collective environment and reduce the negative externalities that harm health from water air and soil pollution. Companies whose products or services help to reduce this pollution are set to potentially benefit from tightening regulations.
Companies with leading governance - How a business is managed operationally, in particular how it manages the Environmental Social and Governance challenges, can give it a competitive advantage over its peers if it can manage these challenges and opportunities more proactively.
These investment themes essentially help us find structural growth. They are also all related to Sustainable Development Goals.
In addition to our analysis on investment themes (which help us identify structural growth opportunities) we also analyse:
· the Environmental, Social and Governance aspects of the business (using our Sustainability Matrix) which helps gauge the quality of the business;
· business fundamentals, essentially to ensure the company has a competitive advantage and is profitable;
· as well as financial modelling to check the company is likely to be worth significantly more in the future.
This investment process is designed to produce diverse portfolios of high quality companies, benefitting from positive change which will outperform the market.
Resources, Affiliations & Corporate Strategies
The Sustainable Future Team has a rigorous and repeatable investment process which aims to deliver superior investment performance, with sustainable development and responsible business practice at its core. This disciplined process identifies companies with strong sustainable and Environmental Social and Governance credentials and robust business fundamentals. It then integrates this assessment into in-depth analysis of valuations to form its investment theses, which are used to create high-conviction, long-only portfolios. All members of the investment team identify potential investments and participate in the fully-integrated investment process - from assessment for inclusion in the portfolios on ESG grounds, to the final investment recommendations.
The team also uses its shareholder votes to encourage the management of the companies in which it invests to make improvements in how they run their business, and to hold them to account where necessary.
There are three elements to investment selection for the Sustainable Future fund range: sustainability, strong business fundamentals and attractive valuation. Only stocks which meet all these criteria will be considered for selection in the portfolios.
i. Identifying Sustainable Companies
At the core of the investment process is the team’s proprietary Sustainability Matrix, which is used to identify those companies that are aligned with Sustainable Development.
Every company held in the portfolios is given a Sustainability Matrix Rating, which analyses the following aspects:
- Product Sustainability – rated from A - E. This assesses the extent to which a company‘s core business helps or harms society and/ or the environment. An A rating indicates a company whose products or services contribute to sustainable development (e.g. renewable energy). An E rating indicates a company whose core business is in conflict with sustainable development (e.g. tobacco).
- Management Quality – rated from 1 - 5. This assesses whether a company has appropriate structures, policies and practices in place for managing its environmental, social and governance (ESG) risks and impacts. Management quality in relation to the risks and opportunities represented by potentially material ESG issues are graded from 1 (excellent) to 5 (very poor). Companies must score C3 or higher in order to be considered.
The Sustainable Future team goes to considerable lengths to ensure that its information on the environmental, social, ethical and corporate governance performance of companies is current and correct. It uses a number of external ESG data providers, and adds to this information from company meetings, broker research, market data, academic research, and NGOs. This information is all analysed internally by the relevant analyst to form a final rating, which is then presented to, and formally reviewed by, the whole team. Current external data providers are MSCI IVA and Ethical Screening. The team also consults an external Advisory Committee, which is able to see the companies held in the portfolios and query any companies it feels may be inappropriate, as well as give guidance on areas which are controversial or where the team wishes to clarify its position.
Each holding has a Sustainability Matrix Report which highlights material ESG issues, any recent controversies, and areas for discussion with company management. All the holdings are audited regularly to ensure compliance with the team’s guidelines.
ii. Business Fundamentals
A variety of valuation metrics are used to analyse a company’s business fundamentals, which allows the team to identify and predict the growth prospects and underlying strength of a company’s financial performance.
Business Fundamentals are assessed on the following metrics:-
- Returns - The team looks for businesses which make a Return on Equity (ROE) higher than their peers, demonstrating an ability to sustain higher returns than their industry sector. Return on Capital (ROC) – must become greater than the cost of capital (WACC) and ROE should be driven by net income/sales or the asset turnover rather than being driven by debt ratios, e.g. assets over equity. The team considers that these factors are characteristics of companies which can sustain a high Return on Equity.
- Resilience - The team searches for high returning companies, those that are able to sustain their levels of Return on Equity. Net debt must be stable and not at an excessive level. Margins are expected to be stable and predictable.
- Quality of Earnings - The team prefers to invest in companies which have enough free cash flow to drive growth forward and whose earnings and operational cash flows are highly correlated.
- Growth - Historic and predicted growth are analysed and forecast. The emphasis is on companies which will deliver future growth through gains in their current market share, or by the development of new products and entry into new markets.
The team also distinguishes between growth through acquisition and organic-led growth. It is important that expansion into new areas does not happen at the expense of overall returns - growth should be compounded rather than diluted.
Meetings with senior management and industry experts form an important aspect of assessing future prospects and the financial dynamics of the company.
The Sustainable Future team expects companies to be delivering on these business fundamentals now, but may allow a lower level of ROE if it has confidence that this will improve in the future.
iii. Valuation Analysis
Each stock is assessed on the valuation metrics relevant to its sector. Using a standard template, each member of the team takes consensus forecasts, and flexes these according their own research and assumptions, using independent research, company meetings, site visits and sell-side analysis.
- The team forecasts sales growth, EBIT margins and Free Cash Flows where relevant over one, two and three years, taking consensus forecasts and adapting these inaccordance with its own views.
- Ratios are calculated which are relevant to the particular sector, e.g. Price to Earnings; EV/EBITDA; Price to Free Cash Flows; Price to NAV (amongst others).
- These ratios are compared to historic ratios for the company and its industry sector; and to anticipate three year growth in earnings or free cash flows.
- From these the Sustainable Future team derives price targets to indicate the value that can be achieved on a one to three year view.
Utilising all this data, a thesis document is then created for each stock. Combined with the sustainability rating, this integrated analysis provides consistency and transparency and ensures that the team will only invest in companies which have suitable ESG criteria and ethical characteristics, but are also undervalued by the market. The final recommendations are presented to the team for debate and challenge at formal meetings and the investment recommendations are recorded. The ultimate decision whether to include the stock in a portfolio lies with the fund manager.