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Please see Active Minds article below from Jupiter Asset Management – received 10/09/2020

Active Minds – 10 September 2020

Ed Meier – Fund Manager, UK Alpha

Exciting opportunities in UK’s transition to clean energy

When it comes to the transition to clean energy, the UK is well placed with the North Sea, which provides ample capacity to store captured carbon, along with the country’s amazing wind energy potential, said Ed Meier, Fund Manager, UK Alpha and specialist in utility companies.

In fact, energy from wind assets in the UK has the potential to be comparable to Saudi Arabia’s energy production from oil. Saudi Aramco produces around 12.5 million barrels of oil a day while the UK wind, if fully developed, could potentially generate the equivalent of 20 million barrels of oil a day, Ed said. It’s a phenomenal potential asset that would be exportable, and the UK government is very much supportive, he said.

In utilities there is a shift in market appetite related to the move to net zero emissions, Ed says. It’s now a legal responsibility for many governments around the world. In the EU, final energy consumption has recently been 20% electricity and 80% fossil fuels. To get to net zero, those numbers must reverse. This means extraordinary potential growth for an industry that has been shrinking. This provides an interesting opportunity, though with limited areas to invest in the UK, which has sold off much of its utility assets, he says.

There is a one publicly-listed utility UK company that is producing 12% of the country’s renewable energy, and the market is underpricing the stock, in Ed’s view. The company is reducing its cost base as it aims to produce clean electricity without subsidy post 2027. In addition, the company is developing a technology called biomass energy, carbon capture and storage (BECCS). It’s a global pioneer in this area and potentially could be a negative carbon producer (i.e. removing carbon from the air) – a vital step in helping companies get to net zero. Thus, negative emission technology could provide a significant level of value for the company, he says.

We’re all over the opportunities from the energy transition in the UK and believe it’s quite exciting, Ed says.

Matthew Morgan – Product Specialist, Multi-Asset

Fed’s fatal attraction to loose policy

The significance of what Jerome Powell and the Federal Reserve are trying to do should not be underestimated, said Matthew Morgan, Product Specialist, Multi-Asset. The recent speech from Powell could mark a critical break from three decades of central bank behaviour. It doesn’t necessarily follow that we’re going to see inflation rise imminently. What matters for markets is less the specific outcome a few years hence, more the balance of probabilities now. What the Fed plans to do shifts that balance from deflation towards inflation.

Following the ‘stagflation’ of the 1970s, the US Congress gave the Fed three main objectives in the Federal Reserve Reform Act of 1977: maximum employment, stable prices and moderate long-term interest rates, in that order. Since then, the principal target of central banks has arguably been to control inflation.

It’s the first point (maximum employment) that falls under the spotlight now. The Fed’s recent announcement of Flexible Average Inflation Targeting (FAIT) acknowledged that the Fed will do whatever it takes to deliver full employment, even if it means inflation being above the 2% target for a period of time.

Powell’s speech makes it clear that the lessons learned from the past few years are that the economy can sustain a higher employment level than previously thought without risking inflation (effectively admitting that 2018’s rate hikes were a mistake), and that the benefits of higher employment were beginning to be shared more widely across society. In addition, higher inflation is the easiest way to bring debt levels down.

This is a significant change to the Fed’s interpretation of its mandate. While there are many that will look – with good reason – to the significant deflationary pressures out there, for the multi-asset team the key takeaway is that this announcement frees the Fed to keep its foot on the gas for much longer than it could previously.

Joe Lunn – Fund Manager, Gold & Silver

Hi Ho, Silver!

The current bull market in gold and silver is best explained in macroeconomic terms, says Joe Lunn, Fund Manager in the Gold & Silver team. Investors’ disenchantment with the US dollar, due to the US Federal Reserve’s determination to continue to print money, has led them to reassess the merits of monetary metals. Yields on government bonds have become so low that they are unlikely to outpace inflation which means that some government bondholders face losses in real terms. Gold and silver, by contrast, are stores of real value.

During bull markets for monetary metals, silver can often rise faster than gold, says Joe. During recent months, the gold/silver ratio (the gold price per ounce divided by the silver price per ounce) has contracted. Silver has risen more quickly than gold: their ratio has fallen from 124 on 18 March, to 72 on 8 September. Joe expects it go lower still.

Joe believes silver bulls should play the contraction of the gold/silver ratio by investing in shares of mining companies. This allows investors to take advantage of the operational gearing in businesses where costs are largely fixed. A rise in the gold and silver price of about 20% could translate into a rise in a mining company’s EBITDA (net earnings with interest, tax, depreciation and amortisation added back) of more than 30%, he says. He also likes miners that are unlikely to issue new shares (some North American silver miners are prone to such dilutive behaviour).

A government’s attitude to COVID-19 is also important, Joe says. Mexico, for example, has granted key industry status to mining: mines would stay open even if much of the economy goes into lockdown. Peru, by contrast, is allowing companies to make up their own minds: miners might shut production if the second wave of infections continues to worsen. 

While Joe has strong views on the relative merits of individual mining companies, many of whose mines he has visited, he believes they should be held within a diversified portfolio as individual companies are not without risk.

Liz GiffordFund Manager, Global Emerging Markets

It’s not all about technology in emerging markets

Liz Gifford, Fund Manager, Global Emerging Markets, spoke about the opportunities available to emerging market equity investors outside of the large cap tech names that have been in such favour, particularly since the start of the pandemic. Liz and the team have a preference for companies with three key features: a high return on capital, a competitive advantage (protective moat) to protect those returns and the ability to grow while maintaining the high returns.

There are several examples of large, high-profile technology companies in emerging markets that meet those criteria, yet last week’s sharp correction in the US tech names underlined the need for investors to be well diversified across sectors. Liz touched on some examples of areas where the team can find attractive opportunities outside of large cap technology stocks.

One example she highlighted was a car rental company in Brazil with a 35% market share. It is the largest player in its local market, has scale and buys twice as many cars as its nearest competitor. This gives the company significant bargaining power that can benefit customers through lower pricing, which further reinforces the company’s dominant position in the marketplace. Covid-19 has presented challenges for the company, of course, but in the end Liz believes it will strengthen this company’s competitive position as smaller players go under.

On a similar theme, Liz also highlighted Thailand’s leading decorative paints company. The company has arguably already achieved its maximum market share, but Liz and the team see the local market has being underpenetrated both in Thailand itself and in neighbouring countries. Here the competitive advantage is in the paint mixing machine at the point of sale, these are expensive to replace and retail outlets don’t typically have capacity for more than one – keeping competitors at bay. The company’s high return on capital and continued growth potential make it attractive to the team. These are just two examples of the kind of stock opportunities that are available outside of the large cap tech names that tend to dominate passive indices.

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Charlotte Ennis