345. Decarbonisation, investment trends and the next big shifts

6 February 2025 (pre-recorded 30 January 2025)

Below is a transcript of the episode, modified for your reading pleasure. Please check the corresponding audio before quoting in print, as it may contain small errors. Please remember we’ve been discussing individual companies to bring investing to life for you. It’s not a recommendation to buy or sell. The fund may or may not still hold these companies at your time of listening. For more information on the people and ideas in the episode, see the links at the bottom of the post.

[INTRODUCTION]

Staci West (SW): Welcome back to the Investing on the go podcast brought to you by FundCalibre. Today we’re looking at the latest trends in climate investing, the impact of shifting global policy and the companies driving decarbonisation.

I’m Staci West and today I’m delighted to be talking to Deirdre Cooper, manager of the Ninety One Global Environment fund. Deirdre, thank you very much for joining me today.

Deirdre Cooper (DC): It’s a pleasure.

[INTERVIEW]

SW: I want to set the scene a little bit before we get into some of the nitty and gritty and more topical areas. So this fund looks to invest in companies that are contributing to the decarbonisation of the world economy. If you could just set the scene for our listeners. Are we seeing improvement on these global targets, or is the goalpost just continuing to move?

DC: I think, unfortunately, we’re still quite far away from a net-zero pathway. Emissions globally continue to rise in 2024, and the world is now seeing warming of about one and a half degrees ahead of pre-industrial levels. So put it another way, we’ve kind of already blown through some of the climate targets that were set, for example, by the Paris Agreement. And as a result, I think we continue to see really significant extreme weather events around the world, whether that’s wildfires in Los Angeles, which I think climate scientists have now shown some pretty solid evidence that those wildfires are directly related to much, much shorter rainy seasons. And then when the winds come, you get these just horrific events. We saw the terrible floods in Spain in the summer. You know, unfortunately these events are just too numerous to mention.

On the positive side, investment in climate does continue to accelerate. 2023 was a record year, more than 21st year that the investment in climate was more than double the investment in the fossil fuel ecosystem that is going to grow again in 2024. We don’t have final numbers yet. That growth in both years was predominantly driven by China, and we’ll talk a little bit more later about policy in China. But investment continues to accelerate.

The pace of growth elsewhere in the world hasn’t been quite as fast as we would want it to be. And that’s why I think we’re still quite far behind some of those emissions targets that we’ve set. I think with the buildup of these extreme weather events, the possibility of a Minsky moment when the world wakes up and moves much, much more quickly towards that net zero scenario increases significantly.

SW: You mentioned China, but before we get to China, I wanted to just quickly start in the US because we did see a few weeks ago President Trump who was sworn in as the 47th president. How will a Republican agenda influence decarbonisation linked sectors in the US and policy from that side of things?

DC: Look, I think we all know that President Trump is no fan of climate policy, nor is he a fan of former President Biden’s signature climate legislation known as the Inflation Reduction Act (IRA) which president Trump tends to refer to as the green new scam. Now, having said that, it is really important generally, but I think particularly in a Trump administration to separate the signal from the noise, there’s always a lot of noise and tweets and posts on social and so on and so forth.

From this administration, we’ve already seen the US pull out of the Paris Agreement. Realistically, the prospect of sort of global cooperation on climate was completely unrealistic anyway, so sadly the US pulling out the Paris Agreement really doesn’t make any difference. You’ve also seen a number of executive orders which do affect, for example, loans and grants to some earlier stage US clean tech companies. But the vast majority of the Inflation Reduction Act is implemented to tax through tax credits. The president cannot change the tax code. The by law the president also can’t not disburse monies that has been allocated by Congress, but they do have the ability through executive order to change the utilisation of those funds. And that’s really what we’re seeing on that small part of the IRA, that is more grants and funds to the extent that we’re going to significantly change the IRA that would need primary legislation, which would have to come from the House of Representatives and be approved by the Senate and then signed into law by the president.

We do expect the Republicans in the House to make some changes to the Inflation Reduction Act, mostly because they really want to reinstate the personal tax cuts that the first Trump administration put in place, which expire at the end of this year.

Even you know, Vice President Hariss was planning to reinstate a large portion of those and in return they’ll probably want to cut costs somewhere. We expect to see the EV tax credit disappear. So you get about $7,500 if you buy an electric car in the US that actually mostly goes to Tesla. But Elon Musk is in favour of reversing it because while it might reduce margins at Tesla, it possibly puts his competitors out of business. And the most important tax credits and the biggest spending proponent of the bill are the production tax credits and the investment tax credits for wind and solar and energy storage. There’s significant support for these as measures for carbon capture for nuclear for energy efficiency from House Republicans. I think there’s now 20 House Republicans on the record in favour of those credits. The Republicans have a, have a majority of five. So that’s enough to stop significant changes.

What we do expect is a lessening of the time period. The original bill gave you more than 10 years of visibility for those credits. An easy way to save money on paper is to have them expire in 2028, which of course is also when this administration ends. And there’s a long bipartisan history of renewing wind and solar tax credits. In fact, the first Trump administration renewed the production tax credit for wind. In fact, fun fact, perhaps to end this section on is that the president that has built most wind in history was the first Trump administration more wind was built and in that period then was built under President Biden. President Biden did back more solar. And that tells you that we do tend to over anchor on the resident of Pennsylvania Avenue when we think about investment returns.

In fact, company fundamentals, long-term interest rates and so on are are far more meaningful in terms of drivers of stock prices. Look back early in 2016 when President Trump was elected for the first time, the Clean Tech sector had a pretty tough time over the four year period of the Trump administration. The Clean Tech sector outperformed massively, and that was predominantly driven by much, much lower interest rates in 2020. But President Biden was elected in 2020. You had a pretty good start post-election. And then of course the best performing sector during the Biden administration was traditional energy. So we may, I think, have reached peak negativity in sentiment on climate policy

SW: Further afield you mentioned China and China contributing to a large amount of that growth that you mentioned in your first answer from 2023 and 2024. So what is it about China? What is happening on China from a policy side that is contributing to this level of growth?

DC: So climate policy in China, I think you really need to see it as industrial policy. And China is trying very hard to move their economy away from property as a key growth driver towards advanced manufacturing and within advanced manufacturing, they talk a lot about the new three, that’s renewable energy, that’s electric vehicles and that’s batteries. And you have seen phenomenal growth in all of those sectors in the Chinese domestic market.

So in 2024, we expect China to install about 250 gigawatts of solar power, to put that in context, the whole UK electricity grid is about 85 gigawatts. So that’s just an enormous amount of investment. You are now at a point where every week in China, more than half of the cars sold are electric, almost 90% of the two wheelers. So, so e-bikes e-motorcycles are electric. You drive around Chinese cities, you really don’t in the tier one cities, hear engine noise anymore. It’s almost entirely electric cars.

And what’s interesting actually is that once you get to 50%, it’s arguably easier to get from 50% to 90% than to get from, from 10% to 25% because now the infrastructure is in place, the network effects are there. So the one country in the world that has about 90% adoption is Norway. And it did move quite quickly, once you reach that tipping point what we’re starting to see now is China export those electric cars not to the US where there will be tariffs, but to the rest of the world. So perhaps the fact that has surprised me the most over the last couple of the years is we’re now at a place where EV penetration, so the number of electric car sold as a percentage of the total number of car sold is higher in countries like Thailand than it is in the US.

So our initial assumption would’ve been that those emerging markets would’ve taken a much longer time to transition because EVs would be more expensive because of the cost of the batteries. And the Chinese automakers have done such a good job at innovating and the Chinese battery makers of making more efficient, more cost effective batteries that in fact you can now buy really attractive electric cars that are cheaper than combustion engines. And that’s driving penetration in places around the world where we really didn’t expect it. Also starting to see the Chinese gain some market share in Europe.

So we see some really exciting industry leading companies in China. Companies like CATL, for example that has about a third of the global market for batteries, but makes the vast majority of the industry’s profits as a result of the strength of those competitive advantages. So we continue to see climate policy accelerate in China. Interest rates are also very constructive with record lows on long-term interest rates and therefore continue to see those companies thrive and grow and increase their competitive advantages in many parts of our sector.

SW: So where do you see the risks then for the, the companies operating in this sector and for the fund for the next, let’s say 1, 3, 5 years?

DC: Look, so we do always think about regulation as a risk. Clearly the US the Inflation Reduction Act is something that we’re gonna keep monitoring. We will monitor the the elections in Europe. We would prefer not to see the far right do do well in Europe. So that’s something we look at. But much more important than, than policy is really long-term rates.

So I think if investors had a more benign view that inflation is starting to turn over, you’ve certainly seen that in Europe, you know, very little inflation in Europe, Chinese are worried about deflation less the case in the US where the economy continues to be strong. But if you started to see a pivot towards interest rate cuts, you started to see inflation come down that makes it much easier for investment in climate to continue to accelerate.

Because generally speaking, across the sector, the clean tends to be a bit more interest rate sensitive than the dirty. So your wind and solar has no operating cost, but you do have to spend that CapEx upfront. Your investment in energy efficiency will have to be financed, but it’s gonna save you a lot of money in the future. So it isn’t true for every company, but broadly across the space lower interest rates are helpful versus higher interest rates. And we would also of course like to see a narrow, less narrow market. So it’s been very difficult for climate companies to outperform a market where returns are just dominated by a tiny handful of companies. So I think if you expect a slightly slower, lower period of economic growth, slightly lower inflation that’s really when these companies with those structural growth drivers should start to shine.

SW: You know, then kind of shifting slightly to the other side of things, which is the consumer. You had said recently about how consumer behaviour change has been relatively slow, but why is this, you would assume that most people could get behind, you know, electric vehicles for example or clean energy, clean tech, but why has this behaviour been so slow to change?

DC: Look, I think what surveys generally show and the data supports is that consumers are very, very willing to invest a and buy clean technology so long as it doesn’t cost extra. So most people won’t pay a premium, which is exactly why, as I said, you’re starting to see surprising EV penetration numbers from places around the world that we certainly didn’t expect that level of sales. What you’ve seen in the US for example, is that huge tariffs on the sector have increased the cost that’s been done in order to encourage a domestic industry, but that domestic industry is a little bit higher cost than some of the imports. The same is true in Europe. So, so if EVs can come in at a price point that is the same or lower than combustion engines, there is plenty of evidence that consumers are interested in buying them. They’re just not prepared to pay more so the good news is that the industry continues to innovate. We still see significant technological improvements and cost stands, and that I think is the tipping point at which you start to spur consumer adoption

SW: And presumably cost of living when it was kind of really peaked. Not that it’s necessarily fallen back down, but that has a huge impact on when people are looking to save money as well. It’s a natural place to have to cut back, even if you do, as you say, want to support it, the cost is the larger overacting factor for many.

DC: No, I think that is exactly right. And that sort of all linked together with a sense that as inflation starts to come down, perhaps, you know, some of that cost of living prices becomes a little bit less acute. I think that may also help.

SW: And then how does this then kind of, you know, sentiment shift or cycle that we see consumers, but also kind of policy going on in the US for example, does that create attractive entry points for this fund when you see that sentiment cycle happening?

DC: Look, I think that’s right. I think it’s always very difficult to call the bottom and sentiment. What you typically find with more thematic strategies is that investors tend to allocate when sentiment is high. So as everyone is looking to launch an AI fund or a America industrialisation deregulation fund today people are less likely to look at climate funds, whereas in actual fact, the best time to invest in long-term structural themes is probably when they’re out of favour and we’re never gonna call the exact moment when sentiment changes.

My guess would be from just analysis of previous cycles and regimes that you’re certainly closer to the end than the beginning. So as I said, looking back at the first Trump administration, the peak negative sentiment was in the early days of that administration. I suspect that the first draft of the changes to the inflation reduction act that will come outta Congress, that will likely be the worst draft. So the negotiations after that will add back measures. So maybe that we’ll call the sort of the bottom in sentiment. But it’s something that we will continue to look at.

Going back to where I started, I think if you look at the climate science, you look at some of these extreme weather events around the world, you look at the cost curves for clean technology, all of that argues so strongly for the long-term structural growth opportunities across the space and therefore makes it for a long-term minded investor, a very interesting sector to consider at a point in time where the companies are discounting much, much lower growth than they have been for a very long time.

SW: Well, you mentioned, I mean we have talked about, we’ve talked about wind and solar and electric vehicles, clean technology, but just as my kind of final question to wrap up, where are you seeing the opportunities today? Is it one of those sectors? Is it something we maybe didn’t already talk about? Give us a few closing thoughts on some keen opportunities.

DC: Absolutely, and we see a very wide variety of different opportunities across our sector. So we look at renewable energy, we see some really interesting companies in that space that are discounting full on reversal of the Inflation Reduction Act. Having said that, we will be incredibly cautious of an index in that sector because there are a lot of companies whose entire business model relies on grants or tax credits from the Inflation Reduction Act, and therefore those companies have almost existential risk. Those are not risks we would wanna take.

We then look at electrification. That’s a space where you’ve seen really strong performance from some of the companies, really strong company growth because of course all of the investment in artificial intelligence is effectively an investment in electrification. The increase in power demand from AI is quite extraordinary. And that means that the focus on energy efficiency within these data centres is significant as is the focus on electrical equipment just generally in terms of supplying those data centres.

And then finally we look at resource efficiency and there I think the universe is a lot broader than you might expect. We see companies that provide bio-based chemicals to replace fossils. We see companies that dispose of waste more efficiently. We see companies that have energy efficient building materials, for example. And in all of those cases, as I touched on, we see those decarbonisation drivers less appreciated by the market than they ever have across across my career. Which means that we tend to see a mispricing opportunity more commonly than we have in the past.

SW: On that note, I will leave it there. That has been an excellent overview of quite a lot of different areas but also opportunities. So thank you very much for coming on and walking us through quite so much in decarbonisation and your sector. It’s much appreciated.

DC: It’s a pleasure. Thank you so much for your time.

SW: The Ninety One Global Environment fund is a global equities fund with a unique approach of only investing in companies that are contributing to the decarbonisation of the world economy. The portfolio has complete conviction, with just 20-40 holdings, and will have limited crossover with peers or its benchmark, with stock selection the primary driver of returns.