Energy Transition and Human Capital, a new investment solution by FARAD I.M.
In May, the European Commission agreed on a roadmap to accelerate Europe’s energy transition and reduce dependency on Russia fossil-fuels by committing 300 billion euros between now and 2027. The REPower EU package will kick start a greener economic model by decarbonising not only the energy supply chain, but also the industrial landscape as well as transport and construction. We believe that the focus on energy sovereignty and climate change mitigation will remain top of mind for governments, corporates and consumers over the long-term. On July 22nd, FARAD I.M. will launch its original sustainable investment solution “Energy Transition and Human Capital” (CH1185519621) to take advantage of structural equity drivers through the lens of the United Nations’ Sustainable Development Goals.
Clean energy, responsible consumption and good health – what do these concepts have in common? They are part of the 17 Sustainable Development Goals identified by the United Nations in 2015 for the 2030 Agenda. This roadmap for Sustainable Investing describes humankind’s greatest priorities through 169 targets whose achievement is measured by relevant metrics – when available and measurable.
In 2015, the 2030 Agenda set out ambitious goals for Earthlings. Seven years later, the OECD takes stock and measures distance to the SDG targets. “With less than 10 years left, stronger policy actions are needed to fulfil the 2030 Agenda. So far, the OECD area as a whole has met 10 of the 112 targets for which performance can be gauged and it is considered to be close to 18 more (mainly those related to securing basic needs and implementing policy tools and frameworks), but much remains to be done.” Perhaps we can make our contribution.
FARAD Group was founded in 2001 to provide independent B2B financial services and was awarded the B-Corporation label in 2017 for its ESG commitments. In parallel, FARAD Investment Management, the investment arm of the group, has leveraged its expertise in ESG standards to offer dedicated sustainable asset management services under the brand “GreenEthica”. This offering includes ESG reporting solutions for both liquid and alternative investments, based on a proprietary sustainable scoring system used to quantify a portfolio’s alignment with the SDGs.
The investment opportunity
In view of the red flags raised by climate and social experts (IPCC, COP26, and the UN among others), FARAD I.M. is launching a unique sustainable investment product to address SDGs lagging behind their climate and social targets. We opted for an AMC (Actively Managed Certificate) in order to combine the best features of an investment fund (daily liquidity/quotation and monthly reporting) and a structured product (flexibility and customization). It will have a unique tailor-made and active selection process based on SDG alignment, where companies are screened on the alignment of their revenues to 10 SDGs split in two sustainable clusters, Energy Transition & Human Capital.
Energy Transition & Human Capital
We are well aware of the catastrophic ecological repercussions if we do not curb anthropogenic carbon emissions in a timely fashion, but the geopolitical stakes should not be overlooked. The fallout of the entrenched standoff between pro-Russian forces and the Armed Forces of Ukraine has spread out far beyond the Donbas region. Globalization weakened states’ resilience during the sanitary crisis of 2020, and now history repeats itself with the energy crisis of 2022. According to Eurostat, more than half of the overall rise in Eurozone inflation is due to energy. In some countries, like France or Switzerland, inflation was more muted, because the energy mix generates much of its electricity from nuclear energy rather than fossil fuels. Below are the Sustainable Development Goals we have selected for this first cluster:
• Decarbonise energy sources (SDG7);
• Foster circular economy (SDG 12);
• Fight climate change (SDG 13);
• Preserve marine biodiversity (SDG 14);
• Control pollution and land use (SDG 15).
The second cluster puts an emphasis on Human Capital. At FARAD I.M., we contemplate Sustainable Investing through the lens of the Triple Bottom Line: Planet - People - Profit. While more than 50 percent of our allocation is concentrated on the Planet, we do not neglect the People. We endeavour to avoid companies with high risk of controversy and we favour companies who commit to provide a safe environment and a fair pay for their employees. For instance, we pay close attention to companies’ human rights policy, remuneration policy, if they have a CSR committee and to which extent they achieve gender parity. Below are the Sustainable Development Goals we have selected for this second cluster:
• Guarantee a fair profit-sharing (SDG 1);
• Achieve better nutrition for all (SDG 2);
• Promote health and well-being (SDG 3);
• Safeguard and save water (SDG 6);
• Smart cities & communities (SDG 11).
FARAD I.M.’s sustainable investment solution
The “Energy Transition and Human Capital AMC” (CH1185519621) consists of global listed equity instruments (long-only) with a focus on Europe and further diversification via other developed markets, mainly Nordics, Japan, China and Canada. We decided to exclude companies listed in the United States from our investable universe, because we believe ESG considerations are still lagging, although they are increasingly integrated. Instead, we will focus on European economies who are the most aware of ESG issues, as evidenced by the establishment of the EU Emissions Trading System and the new EU taxonomy.
We started the skimming process (see figure 1) with a broad universe of circa 1,800 stocks from which we apply a first negative screening based on exclusion policy and on companies either by location, size or sub-industry. This pre-filtered investment list then goes through the lower part of the funnel, the sustainability filter. We map each stock of the pre-filtered investment universe with their SDG contribution – see next section for details on selected SDGs – and we eliminate any firm whose share of revenue aligned with at least one of the ten SDGs we have selected is less than 25 percent.
Once the investable universe is defined, we rank companies based on an internal ESG score incorporating EU taxonomy indicators, EU SFDR metrics and net zero targets, among others. In addition, we rank stocks using a series of quantitative data or ratios on solvency, valuation, upside potential, operational efficiency, earnings growth and momentum. The best 60 to 70 stocks receive a weight from 0.5 to 2.5 percent, and the ambitious targets of this product is to invest 75% within stocks with an SDG alignment higher than 50%. The portfolio holdings will be well-diversified in terms of geography and sectors to reduce volatility and limit drawdowns. Rebalancing will be operated on a regular basis (one to three months) so as to remain opportunistic and manage our risk exposure.
Figure 1: Investable investment universe and selection process (FARAD I.M.)
Our fiduciary duty guides our end goal: net capital appreciation. What we mean by “net” is that one client’s wealth accumulation should be a net positive for society, even after discounting negative ESG externalities linked to the companies’ business. To reach a sustainable equilibrium, individuals need to find a common ground where none of the three “Ps” (Planet - People - Profit) overshadows the other. Only in these circumstances can the economic model be bearable for nature, equitable for labourers and viable for investors. In our equity selection, we strive for this equilibrium.
The “Energy Transition and Human Capital AMC” will have a structural overweight on the Energy Transition cluster by focusing on SDG 7 “Affordable and Clean Energy” & SDG 13 “Climate Action”, because we identify many structural drivers supporting these themes. The exposure to the Human Capital theme shall provide a safety cushion in times of style rotation like the one we are currently witnessing. In this way, we may provide to the investors the possibility to participate to specific environmental themes, such as decarbonisation, climate change, circular economy, clean water and biodiversity preservation, but also to social themes like health and well-being, access to sustainable food and sustainable economic growth.
If you want to learn more about our sustainable investing products and services offering, please contact crm@FARAD-IM.com