2022 Q2 ESG Market Commentary

ESG Update: Water and Waste

2022 will probably be remembered as the year of sudden and pivotal change, in both macro-economic and financial conditions, affecting the global investment landscape including ESG and the green transition. The positive ESG investment spree of the last decade has come to a standstill as we can see by looking at global macroeconomic dynamics and the slowing of institutional and retail investment flows observable in the market.

In the US, the Biden administration is facing an uncooperative Congress, recently ruling in favour of expanding gun rights, ending the right to abortion and most recently threatening the ability of the Environmental Protection Agency to regulate global warming via enhanced disclosure by public companies on their emissions.

On the other side of the pond, Europe’s ambiguous stance was on display at the recent G7 meeting in Biarritz, France. While committing to stop financing of overseas fossil fuel projects, they opened up to the possibility of exceptions for those initiatives guaranteeing supply of liquid natural gas to their countries, in an attempt to face the likely scarcity of gas over the next winter if Putin decides to weaponise the natural resources underpinning Russia’s economy.

Another unexpected u-turn came from the European Union, where lawmakers voted to classify gas and nuclear energy projects as “green investments” under the EU taxonomy, potentially opening up billions of euros in fresh funding at the expenses of renewable infrastructure projects.

These events delay the shift towards the sustainable transition and put even more focus on the crucial role that private capital can have in the multi-decade journey to net zero. At IPS capital, we believe investors who wish to allocate capital responsibly, should have access to different themes within ESG and environmental solutions, and we strive to give exposure to as many UN Sustainable Development Goals (SDGs) as possible within the risk constraints of our mandate.

In this quarter’s ESG note we are covering the Fidelity Sustainable Water and Waste fund, the focus area overlaps with SDGs number 6 and 12 (see Figure 1 below). This open-end investment vehicle targets companies operating in different sectors but all involved in the value chain of waste and water, an often-overlooked area in the economy. The investment case underlying the strategy is that these companies are driven by long-term mega trends such as population growth, resource scarcity and environmental constraints, supportive regulation and urbanisation.

The fund allocates to regulated water and waste businesses with top quartile sustainability practices but also to companies involved in developing new recycling methods, solutions that reduce the amount of waste as well as circular economy participants.

Given the problem of ageing infrastructure in most of the developed world today, the attraction of this area of the market lies in the necessity of new solutions for an efficient water and waste management system but also in the long-term predictability of the cash flows with inflation linkage which proves beneficial in the current economic backdrop. The fund also fits well from a diversification perspective as it does not have a meaningful allocation to the technology and financial sector.

From an ESG perspective, the fund excludes violators of the UN global compact, a set of ten principles related to human rights, labour, environment and anti-corruption as well as weapons and thermal coal. The sustainable investment policy also mandates that at least 70% of the fund is invested in companies displaying high sustainability standards with the remaining 30% having to be allocated to businesses which are showing improving characteristics. With the latter, the team follows an engagement approach to incentivise the adoption of better standards and practices.

Both the water and waste sectors should have tailwinds coming from the global focus on climate resilience and environmental solutions to the world’s sustainability challenges. In particular, within the water sector, the approved US$1tn US infrastructure bill will support c.US$100bn of water infrastructure investment. This includes upgrading infrastructure, disaster mitigation measures, modernisation, and water quality remediation to get rid of unwanted and persistently polluting chemicals.

Tiziana Maida

Head of Research