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JOURNAL 5 CHAPTER 1
CAPITALISING ON THE LONG TERM

INVESTMENTINSTITUTE JOURNAL 5 CHAPTER 1

C A P I TA L I S I N G O N T H E L O N G T E R M

JOURNAL 5 CHAPTER 1
INVESTMENTINSTITUTE
The Investment Institute is at the heart of
Investec Asset Management’s commitment
to develop unique insight and engagement
opportunities for our clients and stakeholders.
We provide research and analysis on key
political, economic and investment trends
to support effective, long-term investment
management decisions. The Institute is actively
involved with Investec’s sustainability and
environmental, social and governance initiatives.
Our work draws upon the investment
expertise and unique heritage of our firm in
addition to partnerships with leading academics
and industry practitioners.
Katherine Tweedie
Executive Director
Investment Institute
THE JOURNAL
The research and insight of the Investment
Institute is primarily shared through The Journal,
now in its fifth year of publication. It includes
the Investor’s View profiling the perspectives
of global chief investment officers from leading
asset allocators around the world.
In our first edition, we analysed the
investment landscape five years post the
global financial crisis. We then examined the
changing dynamics of emerging markets and
the significant evolution taking place in China’s
onshore capital markets. Our more recent work
has explored the concept of building business
and portfolio resilience in an age of uncertainty,
at a time when sustainability and ESG are
becoming more mainstream.
Our current work focuses on the steps that
asset owners can take to re-orient capital to the
long term. We explore the increasing empirical
evidence in support of long-horizon investing
but ask: is this easier said than done? How do
key stakeholders move from talking about the
importance of long-termism to taking action,
and securing the benefits of doing so?
 Introduction: Capitalising on the long term [ 1 0 ]
John Green and Katherine Tweedie

1 Ideas for action for an enduring and

sustainable financial system [ 1 8 ]
Hendrik du Toit, Therese Niklasson and Aniket Shah

2 An active Quality equity approach for

long-term sustainable growth [ 3 2 ]
Simon Brazier, Clyde Rossouw and Neil Finlay

3 African infrastructure investment

opportunities and sustainable development [ 4 8 ]
Nazmeera Moola and Ope Onibokun

4 It’s all in the numbers: why good statistics are

key to infrastructure investment in Africa [ 5 8 ]
Morten Jerven

5 Perspectives on corporate pensions [ 6 6 ]

Mark Walker and Katherine Tweedie

6 Long-term opportunities and risks in

carbon management: the case of sovereign
debt investing [ 7 8 ]
The Journal is also available to read and download online.
www.investecassetmanagement.com/journal Roger Mark, Naasir Roomanay and Desné Masie
[8] [9]
“ Is now the
Introduction: Capitalising
on the long term

time to SUMMARY: There is ever more compelling

evidence in support of taking a long-term

write the
approach to investing. But is this easier said
than done? How can key stakeholders move
from talking about the importance of long-

future?
termism to taking action? Is long horizon
investing only for private markets or can it
be pursued in mainstream equity and fixed
income strategies? Are there emerging
thematic areas that will lead to value
creation as part of a long horizon investment

” philosophy? What role does sustainability

and ESG play? These questions and more
underpin the work of the Investment
Institute and our fifth edition of The Journal.

John Green
John is global head of client group at
Investec Asset Management. He is
responsible for all of the firm’s client related
activity including sales, client management
and marketing.
Katherine Tweedie
Katherine is executive director at the
Investment Institute. She is responsible for
providing research and insight to financial
institutions on geopolitical, economic and
investment trends shaping portfolio strategy
and asset allocation decisions.

[ 11 ]
 An unusual consensus
It is rare to find areas of strong consensus in the world of investing and
capital markets. However, it is increasingly apparent that a broad array of
stakeholders do share the view that short-termism in all of its guises is bad
for investors, bad for companies and bad for economies and growth.
As an industry which demands curiosity, analysis, insight and rigour,
we tend to seek evidence before we take action and then, when we
have the proof, we demand more. The evidence in favour of the benefits
of increased long-termism is building. We believe now is the time for all
capital market participants to consider how to take action to improve long-
termism.
In the report, Measuring the Economic Impact of Short-Termism,
The McKinsey Global Institute (MGI) shows that firms with a long-term
orientation (defined as more than seven years) generate better returns for
both shareholders and society, enhancing the economy.
According to MGI, for such firms, average revenue and earnings growth
were 47% and 36%1 higher respectively than those of their competitors.
They also showed less volatility and their market capitalisation grew faster
than their more short-termist counterparts. Companies that focused on the
long term also created 12,000 more jobs, on average, than their peers in
the period between 2001 and 2015.
In a 2016 study, Hsu et al considered the effect on long-term
2 on an outcome that is ten-plus years in the future, rather than the next
performance of retail investors taking short-term views. The study
looked at US mutual fund flows over a period of 20 years and analysed
trends of investors trying to time the market – invariably buying high and
selling low. The study concluded that this behaviour resulted in value
destruction of 2% in returns per annum. It may not sound like much, but
when considering the compounding effect over 20 years, 2% per annum
increases a portfolio value by almost 40%.
1
McKinsey Global Institute (MGI), February 2017. ‘Measuring the Economic Impact of Short-
Termism’: http://www.fcltglobal.org/insights/publications/measuring-the-economic-impact-of-
short-termism
2
Hsu et al. 2016. ‘Timing poorly: A guide to generating poor returns while investing in successful
strategies’. Journal of Portfolio Management, 2016, Vol. 42, No. 2
[ 12 ]
Finally, recent findings by the Willis Towers Watson (WTW) Thinking
Ahead Institute show that investors, with a longer horizon approach,
benefit from a net premium that could range between 0.5% and 1.5%,
depending on an investor’s size and governance arrangements. The
WTW working group argue that over time this investment philosophy also
manifests in lower costs and losses and avoids the pitfalls of buying high
and selling low.
Moving actively and deliberately to improve long-termism
With growing consensus on the value of long horizon investing, the real
question is - what should we do about it? How do we, as key actors in a
connected ecosystem that drives economic growth, provides capital to
companies and generates returns for individual savers take tangible steps
to re-orient our focus towards the long term?
In this Journal and for the rest of the year, our Institute will be focused
intently on exploring these questions. We will explore it from several
perspectives and we trust our readers will not only be provided with food
for thought, but some specific ideas on how we all might act to effect
change.
Later in this chapter of The Journal, we will learn from Mark Walker,
CIO of Univest, that long-termism is a state of mind that requires constant
reflection on whether decisions are taken or advice is provided based
two or three years. This means, as Dominic Barton, Managing Partner
at McKinsey argues, the conversation is not about either shareholder
maximisation or stakeholder maximisation, but rather about how all those
engaged with capital should shift to sustainable value creation through
long-term thinking.
To make a difference we will be exploring how each of the key decision
makers in the capital markets chain can consciously consider what steps
they can take to improve long-termism.
For asset owners, we ask them simply to start by determining if they
agree with the long-term consensus. If so, do they commit consistently
to seeking to improve long-termism in all of the allocation decisions that
they make in their statement of investment strategy? Most pension funds
[ 13 ]
 and individuals would shy away from this question, concluding that to infrastructure capability and our view that one of the key long-term themes
improve long-termism you need to invest in illiquid strategies that constrain for investors is a commitment to supporting the growth of renewables
cashflow and commit you to investment lockups well beyond your comfort companies in the listed capital markets.
horizon. We hope to demonstrate in the work that we are doing within the
Institute that this is not the case. Any investor can take steps to improve In conclusion
the long-term orientation of their portfolio by simply asking whether the Trying to predict the future will always remain a challenge. However, one
managers who manage their money are taking a genuinely long-term view trend that appears set in stone is that exponential technological innovation
in the way they invest and the way they engage with the companies they and increasing access to real-time information will only increase our
own on investors’ behalf. connectivity and pressure to act in ‘the here and now’. As such, it is going
For investment consultants, we argue that more needs to be done to take even more discipline and the combined efforts of stakeholders
to help asset owners consider how they can improve the long-term across the corporate and investment landscape to work together to shift
orientation of their portfolios. Developing specific views on which liquid our priorities. With a long-term focus we can create the world we want to
strategies support improved long-termism, engaging actively with live in 10, 20, 50 years from now. We must, however, move beyond talk
managers to understand not only how they will deliver market-beating and analysis and into action. We hope that in the months to come, the
returns but also in what way they do this will be key. We challenge the Institute, its journal and the opportunities we provide for dialogue, will help
consultant community to step away from the consensus that long-term action happen.
equals illiquid and to find ways to help investors in liquid strategies make
meaningful progress in their desire to improve long-termism. Probably the
most important step in this effort will be to clarify how investors in these
strategies should think about assessing and measuring their managers. We
know that one of the most effective destroyers of long-term thinking in the
investment ecosystem is the obsession with benchmarks and short-term
performance relative to benchmarks. Consultants will play a crucial role
in developing approaches that are relevant, give asset owners confidence
and hold managers accountable.
For investment managers, the action is to be much clearer about how
they are committed to long-termism. At the highest level this is about the
firm and whether its approach to its business, its investment processes
and its clients is genuinely long term. At a lower level the question for every
investment manager is how they are taking steps within their investment
strategies and their new capability-building to advance the focus on long-
termism.
Through this journal we set out some very specific strategies that we
at Investec Asset Management believe take a genuine long-term view
on investing. These include our Quality investment process, our Africa

[ 14 ] [ 15 ]
[ 16 ] [ 17 ]
“ Will a
better
future
be what
we leave ”
behind?
Hendrik du Toit
Hendrik du Toit is chief executive officer at
Investec Asset Management and an executive
director of Investec plc and Investec Limited.
Hendrik joined the Investec Group in 1991.
Therese Niklasson
Therese is head of global ESG at Investec
Asset Management. She works with
investment teams, client groups and
operations teams on ESG policies, research,
corporate governance and engagement.
1 Ideas for action for an
enduring and sustainable
financial system
SUMMARY: The Business and Sustainable
Development Commission’s (BSDC)
report, Ideas for Action for a Long-term and
Sustainable Financial System, suggests the
global financial sector has the potential to
facilitate the successful achievement of the
United Nations Sustainable Development
Goals (SDG) by 2030. However, this
requires co-ordinated efforts by competing
capital market participants, asset owners
and regulators to change the global
financial system, shifting their mind-set and
behaviour towards a more long-term focus.
This article explores the BSDC’s
suggestions. These include aligning policy
and regulation with the SDGs, advocating
reporting reforms, directing patient capital
towards infrastructure development,
promoting the creation of long-term pools
Aniket Shah
Aniket advises national governments, global
of risk capital and supporting financial
financial institutions (public and private) and
non-profit organisations on how to finance
innovation that accelerates financial inclusion.
the Sustainable Development Goals (SDGs).
[ 19 ]
 Aniket Shah
The simultaneous achievement of economic growth, social inclusion
and environmental sustainability is the imperative of the 21st century.
This imperative can be captured in two important words: sustainable
development. That is to say, the complex interrelationship between
the physical environment, society and economics. The 17 Sustainable
Development Goals (SDGs) agreed by 193 member states of the United
Nations in September 2015 embody these principles, with quantitative and
qualitative targets and timelines through to 2030.
The concept of sustainable development is taking hold around
the world. At the G20 Summit in September 2016, the US and China
ratified the COP21 and formally committed to the goal of limiting global
temperature rises to less than 2°C from pre-industrial levels. As of
December 2016, 118 parties have ratified the Paris Agreement . Despite 1 institutional investors and more – and billions of individual market
pervasive political uncertainty, the world has already begun the long and
difficult process of decarbonisation, with signs of decoupling between
economic growth and carbon dioxide emissions over the past three years.
The global financial sector will be at the centre of humanity’s attempt
to achieve the SDGs. Even with the required technologies, policies and
political will, financing would ultimately need to flow to the demands
of sustainable development. Recent estimates indicate that the SDGs
will require an additional US$2.4 trillion of annual public and private
2 achievements that can only be measured in decades, not in days. It may
investment into low-carbon infrastructure, energy, agriculture, health,
education and other sustainability sectors, globally. The process of
energy decarbonisation alone will likely cost an incremental US$1 trillion
per annum in further investments in renewable energy and associated
technologies. It is the task of the financial system – public and private – to
mobilise this capital for the SDG agenda.
The financing of sustainable development, however, presents a paradox
that needs to be solved.
1
President Trump announced in June 2017 that the US would withdraw.
2
http://s3.amazonaws.com/aws-bsdc/BSDC_SustainableFinanceSystem.pdf
[ 20 ]
On the one hand, the required increase in global investments is not
overly daunting given the size, scale and sophistication of the global
financial system. The global economic output (gross world product) in
2015 was US$113 trillion (purchasing power parity (PPP)), and is growing
by approximately 3% per annum. In addition, the stock of financial assets
globally is over US$290 trillion, and growing by 5% per annum. More than
five billion people have access to some level of financial services, thanks
to massive improvements in mobile telephony and financial technology.
Simply put, the financial system has the requisite size, technological
knowledge, dynamism and global reach to help achieve the SDGs.
Despite, and perhaps because of, the significant size and scale of the
financial system, its re-orientation will be not an easy task. The system
is comprised of tens of thousands of institutional participants – including
regulators, banks, insurance companies, stock and bond exchanges,
participants. Changing the behaviour of this panoply of actors, each of
whom operate in different geographies and regulatory environments, will
require clear thinking, focused analysis and political will.
To solve the paradox, a system-level shift towards long-term,
sustainable capitalism is required. Long-term capitalism means a financial
system that supports long-term investments, from businesses and
governments, for long-term outcomes. It means a general orientation for
even mean taking decisions that cause inconvenience and stresses in the
short term for the greater long-term benefit. The challenges of sustainable
development will require this orientation if they are to be overcome. To
move financial systems in this direction will require many changes in
corporate incentives, the regulation of financial institutions, the diffusion of
financial technology and more.
The BSDC was formed in 2016 to bring together leading corporate,
non-profit and philanthropic leaders to think through how the global
business community could accelerate progress towards sustainable
development. The BSDC shared the common belief that despite the
growing business opportunities (estimated at over US$12 trillion by 2030)
in achieving the SDGs, a conscious effort would be needed to re-orient the
[ 21 ]
 Financial assets are growing 2% financial system towards the needs of sustainable development. Although
members of the BSDC understand the complexity of the changes required
faster than GDP for the global financial system, they ultimately agreed on five practical areas
of action for the business, policy and investor community.

First, economic policy and financial regulation must be aligned with

sustainable development. There is broad recognition that the global
economy has still not recovered, structurally, from the 2008 global

5% growth financial crisis (GFC), and that new economic policy frameworks,
including focused efforts on green infrastructure investments, are
needed by government. In addition, financial regulation must be

3% growth
developed while keeping the needs of long-term financing in mind.
This has not been the case for much of the financial regulation
developed in the aftermath of the GFC.

Second, corporate reporting must be standardised and harmonised

for sustainable development. Although there has been significant
uptake in sustainability reporting in recent years, there is very
little standardisation. With a lack of globally accepted standards,
businesses report on different indicators, making performance
tracking very difficult for investors and the broader public. The
creation of an International Sustainability Standards Board and of
corporate sustainability benchmarks would be useful initiatives in
GDP financial assets
this domain.

Third, we must get sustainable infrastructure right. There is an

annual need of approximately US$6 trillion for green infrastructure
investments, with a projected gap of US$2-3 trillion per annum.
Although the public sector can finance some of this gap, the

Global GDP growth is 3% p.a.
The stock of financial assets
globally is growing by 5% p.a
critical challenge is how to attract private capital, at scale, into
global infrastructure needs. The creation and scaling-up of blended
finance instruments can help solve this gap, as can a revisiting of
the size and scope of global development finance institutions, a
process that is already underway.

[ 22 ] [ 23 ]
 Fourth, it is necessary to create and expand truly long-term pools
of capital for the required investments in sustainable development.
Although it is clear that long-term finance is the outcome of many
variables, including financial sector depth, level of economic
development, structure and size of savings systems, and more, it
is clear that there is not enough truly long-term, patient investor
capital that is able to be mobilised for long-dated investments in
infrastructure, energy and other real-economy investments.
Fifth, financial innovation must be supported and used
to accelerate progress towards sustainable development.
Improvements in information and communication technology
has enabled extraordinary development in financial inclusion, the
democratisation of investments, and the creation of identities for
individuals and assets through technologies such as Bitcoin and
Blockchain. These innovations have the potential of solving some
of the most intransigent problems of sustainable development,
including financial inclusion and corruption. Their uses must be
guided towards the needs of the SDGs.
There is an important underlying theme for all five areas of action:
integration. The world must not waste time in trying to develop a parallel
financial system that is sufficiently engaged with sustainable development.
Instead, the concepts guiding sustainable development should be
integrated with, and permeate, the global financial system and its
constituent parts.
The paradox of financing sustainable development is solvable, but
will not be solved on its own. It requires a concerted effort from business
leaders, investors, regulators, policymakers and the general public in order
to be solved. By driving action in a few critical areas, including policy and
regulation, corporate reporting, infrastructure, long-term financing and
innovation, we believe that the great power and influence of the global
financial system can support the world’s attempt to achieve a more
sustainable future.
[ 24 ]
Hendrik du Toit and Therese Niklasson
In the context of the sustainable development challenge to the global
financial sector set by the BSCD, Investec Asset Management recognises
that it has an important part to play as a fiduciary and a manager of
institutional assets with a mix of strategies and time-horizons.
We have, therefore, incrementally built our investment resources
to better understand and internalise risks and opportunities related to
sustainable development. This development is the result of the realisation
that the dynamics of economic growth and wealth creation over the past
half-decade, to the detriment of natural capital and developing countries,
are incompatible with sustainable global development. Long-term business
strategies need to become more inventive to continue to maximise
sustainable returns for stakeholders, instead of continuing the current zero-
sum game of destructive value extraction.
Our own business is long-term, and it is in our stakeholders’ interest to
protect future value by taking the right decisions today. Ultimately, it is not so
much a case of pure altruism, but a shift that has evolved along the lines of
an ‘enlightened shareholder value’ approach. This integrates the risks and
opportunities stemming from these areas to protect and grow the value of
the investment, and allow our clients to retire in dignity, and leave a legacy of
a more sustainable world for future generations.
The report3 identifies five key areas of focus, and outlines key
recommendations for each of them (see page 23). The structural question
is: how can the world finance the SDGs? The answer is fluid and wide-
ranging: no less than ‘orientating the financial sector towards long-term and
sustainable outcomes’. To these areas we would argue that a significant
number of investors can specifically contribute to the first, second and fourth
recommendations by the BSDC by becoming more active in improving
transparency, reporting and encouraging regulators and governments to
include sustainable development and environmental, social and governance
(ESG) issues in their decision-making.
Most governments have not yet made clear links between sustainable
3
http://businesscommission.org/our-work/new-report-how-the-world-can-finance-the-sdgs
[ 25 ]
 commitments and capital markets, and this articulation of investors’ role
is key to progressively achieving the SDGs. Examples of how Investec
Asset Management has engaged with this initiative include contributing
to consultations by governments and stock exchanges around the world.
Issues discussed include sustainability reporting and data, and asking
finance ministers to push for more clarity around a carbon price.
Few mainstream investors are able to easily expand into sustainable
infrastructure investment, given the specialist expertise required. Investec
Asset Management has been able to do so through its Emerging Africa
Infrastructure Fund (EAIF), which invests in areas in Africa that require
development and contribute to jobs, infrastructure, and knowledge
transfer in a responsible manner and according to the International
Finance Corporation Performance Standards. For the last recommendation
from the BSCD, we would argue there is a space for most investors to
progress the sustainability transition by considering innovation, ranging
from impact bonds and technical assistance funds, to managing their own
environmental footprints and investing in projects, such as Gold Standard
sustainability projects, to mitigate carbon emissions.
More specifically for our industry, the report suggests that the
investment community has three key areas to which a contribution to a
financial system, that better values sustainable development, can be made.
These include embedding the commitment to the SDGs in the investment
process and ESG frameworks, encouraging long-term investment and
allocation, and leading by example in the way firms operate.
It is difficult to define the precise value of assets invested in a
sustainably responsible fund and perhaps the best proxy for the more than
US$60 trillion assets under management is to consider the membership
of the United Nations Principles for Responsible Investment (UN PRI).
Currently, this membership represents a trillion US dollars and should,
in theory, be integrated capital or partly integrated capital because a
commitment to the principles includes an expectation around integration.
This development reflects the move that ESG issues have made
from a side-line consideration to becoming a central and underpinning
issue of any investment case. It is moving from the periphery to a central
consideration. That is to say, to just another element in the investment
[ 26 ]
analysis selection was also aided by the role played by an explosion of
literature on the topics, case studies, input from civil society organisations,
governments at the national and supra-national levels.
Embedding SDGs into the investment process is effectively
emphasising the importance of ESG integration, and this has been a key
priority for Investec Asset Management over the past number of years.
The integration developments have evolved on the back of key trends and
signals for asset managers.
Firstly, and perhaps most importantly, there is an economic reason for
considering material ESG issues in an investment case. As was highlighted
earlier in this article, economic growth has contributed to hugely beneficial
developments to our societies and their wellbeing, but such growth has
also come at a great natural cost.
Today, environmental management is a regulated space, and if properly
penalised when mismanaged, an internalisation of the environmental
externalities may soon become evident. For example, the BP Macondo
spill in the Gulf of Mexico is an illustration of how close a company, that
had survived many blow-ups and accidents in the past, could come to
face its downfall with a US$61.2 billion (pre-tax) bill. This has had an
impact on all its stakeholders and the value of the business.
Other issues that have grown in value to the detriment of other global
financial systems include bribery and corruption, labour slavery, trafficking
and drugs industry. Bribery and corruption are estimated to be worth
US$1.5 trillion, about 2% of global GDP4. The investment industry has a
significant role to play alongside governments and regulators to allocate
capital responsibly, with proper due diligence and scrutiny. Investec Asset
Management, therefore, looks closely at governance and business integrity
before investing in any listed or alternative asset investment.
By integrating ESG issues into the investment process we are able to
better understand where these risks reside, how exposed companies are
to them, how well-positioned companies are to manage them, and how
we can set priorities that allow us to have an impact through engaging
with management. This platform will be important for integration of the
4
World Bank, 2017
[ 27 ]
 SDGs and, over time, will have more sophisticated tools to measure and
incentivise impact.
In addition to the growing focus by asset owners, there has also been
a growth in policies and initiatives supporting and regulating the space
around ESG. For example, a joint report by the UN PRI and the MSCI
ESG Research team in 2016 identified almost 300 policy instruments
(over half of which were created between 2013 and 2016) which support
investors to consider long-term value drivers in the 50 largest economies
in the world. These included, for example, local Stewardship Codes (such
as the Code for Responsible Investing in South Africa (CRISA)5 and the
UK’s Stewardship Code), which Investec Asset Management is a leading
supporter and signatory to. Investec Asset Management has prioritised
ESG integration in recent years and all its teams and strategies now have
an integrated and evolving ESG process. The framework explores the
relevance of ESG through five key steps; universe, fundamental analysis,
portfolio construction, engagement and reporting.
In terms of the second area – encouraging long-term investment
– there are a number of ways we work to achieve this, as has been
highlighted earlier. In addition to the advocacy work and engagements
we have with the pension industry and our clients and policymakers,
our investment professionals are invested in their own funds over the
long term. This facilitates an alignment with the underlying long-term
performance. Further, Investec Asset Management also offers clients a
wide range of options to match their different stewardship preferences and
engages and shares insights with pension fund trustees to encourage the
understanding of these issues.
Ultimately, it is critical for asset managers to participate in the debate
about the need for a shift in the global financial system, encouraging
and valuing managers and investors who prioritise an emphasis on
incorporating SDGs.
On a very practical level, we can vote against management at general
meetings, where we have reason to believe that SDGs commitments or
pledges are not being honoured, or are being rejected or ignored. We can
5
http://www.iodsa.co.za/?page=CRISACode
[ 28 ]
also promote and lift the governance of SDGs by asking companies to
strengthen the board skills matrix, by adding specific SDGs skills at board
level.
We believe it is important to not only manage our clients’ assets in a
responsible, long-term manner, but also to proactively engage our clients
and stakeholders on the subject of sustainability. We recognise that the
sustainability imperative means that we cannot afford to wait passively
for our clients to ask for sustainable investing, but rather we have a
responsibility and opportunity to lead the conversation and encourage
them on their journey towards more sustainable investing. Over the
past year, we have engaged our clients through the Investec Investment
Institute, client roadshows, thought leadership, and initiatives, such as our
engagement with the BSDC.
We also mitigate our own carbon footprint, manage our waste, train
and develop our staff, and contribute to our communities and conservation
across Africa. We have also improved our policy towards diversity, which
has recently been articulated as a coherent framework following a process
of internal dialogue to support our wider commitments to progressive
engagement in the global marketplace towards sustainability.
The financing of the SDGs will encompass attitude and mentality
changes, coupled with financial regulation changes, and on-the-field
changes. Guided by our actions in the past, Investec Asset Management is
aware that overcoming these hurdles may well be a burdensome and slow
process. But we are inspired and committed to contribute to sustainability
across the world. We have the incentive, people, skills and tools to do so.
[ 29 ]
[ 30 ] [ 31 ]
“ What is 2 An active Quality equity
approach for long-ter m

true quality sustainable growth 

SUMMARY: Clyde Rossouw, Simon

really
Brazier and Neil Finlay discuss the unique
characteristics of an active Quality approach
and its suitability for long horizon investors.

worth?
Strategic thinking, active ownership,
stakeholder awareness and engagement
will be important drivers of long-term
performance. Implemented through a high
conviction, focused, low-turnover portfolio,

”
an active Quality approach is well-placed
to deliver long-term sustainable growth,
development and value creation.

Simon Brazier
Simon is co-head of Quality at Investec Asset
Management. He is a portfolio manager with
a focus on UK equities, and manages the
Investec UK Alpha Fund.

Clyde Rossouw Neil Finlay

Clyde is co-head of Quality at Investec Asset Neil is a product specialist within our Quality
Management. He focuses on multi-asset capability at Investec Asset Management. He
absolute return and low volatility real return represents the views and capabilities of the
equity investing. Quality investment team with clients.

[ 33 ]
 “Short-termism can lead to insufficient investment in the sources of over time. As illustrated in Figure 1, the sectors achieving this have been
a company’s competitive advantage, and capital allocation decisions consumer staples, healthcare and information technology; where Quality
that are value destructive and misaligned with the long-term needs of companies and enduring competitive advantages are most prevalent.
investors” Clyde Rossouw – co-head of Quality, Investec Asset Management
Figure 1: Significant divergence in ROIC decay profiles by sector
for companies with Q1 ROIC
The Quality approach to long-term sustainable investing
Before assessing its suitability to long-term investing, we first need
20
to define what we mean by ‘Quality’. Quality companies have hard-
to-replicate, enduring competitive advantages, typically derived from
18
intangible assets, such as brands, patents, copyrights, licenses and
distribution networks. These competitive advantages create barriers to 16
entry that allow such companies to sustain high levels of profitability, as
measured by both return on invested capital (ROIC) and margins. Quality 14 Consumer staples

companies often have dominant market positions, operating in stable, Healthcare

growing industries, with low sensitivity to the economic and market cycle. 12
Information technology
With a focus on intangible rather than physical assets, they are capital
10 Telecommunication services

Level of ROIC relative to market median (%)

light, financially strong and highly cash generative.
Consumer discretionary
These unique attributes are ideally suited to long-term investing.
8
The Willis Towers Watson (WTW) Thinking Ahead Institute1 highlights a Industrials

number of building blocks of value creation via long-term investing, which 6 Energy
can be broadly summarised under two headings: ‘long-horizon return
Materials
opportunities’; and ‘cost-reduction and loss-mitigation strategies’. 4
Financials

Long-horizon return opportunities – ROIC and 2 Utilities

margin sustainability Real estate

We have studied the extent to which companies with high ROIC experience
Year 1 Year 2 Year 3 Year 4 Year 5 Year 6
mean reversion or a decay in those returns over time. We analysed the top
quartile of companies in each MSCI ACWI sector, as measured by ROIC, Source: Investec Asset Management, FactSet, 1988-2016

and calculated the average fade rate over rolling five-year periods between
1988 and 2016 2. We found that certain sectors not only started with higher Our research also revealed that investing in companies with top-quartile
levels of profitability (ROIC), but also did better at sustaining those profits ROIC has been most likely to deliver strong long-term shareholder returns.
Over the analysis period, 58% of companies that started with top-quartile
ROIC were able to maintain that over a rolling five-year period. These
1
Willis Towers Watson Thinking Ahead Institute: https://www.towerswatson.com/en-GB/Services/
Quality companies delivered outperformance of 5.4% p.a. on average
Services/Thinking-Ahead-Institute
2
Please refer to our 2016 paper ‘Equity investing the Quality way’ for the full methodology. versus the market, as illustrated in Figure 2 on the following page.

[ 34 ] [ 35 ]
 Figure 2: Investing in companies with Q1 ROIC is most likely to provide strong returns after As a company’s ROIC is partly a function of its margin profile, the logical
five years
next step is to examine profit margin sustainability, here represented by the
operating profit margin3. A decline in a company’s ROIC can be caused
Companies First quartile Second quartile Third quartile Fourth quartile
starting in: (Q1) ROIC (Q2) ROIC (Q3) ROIC (Q4) ROIC
by a variety of factors. However, at a high level it is typically a function of:
1) declining sales, 2) an inflating asset base without a corresponding rise
10.1%
9.6%
9.2% in profits, 3) falling profit margins. Therefore, in order to better understand
ROIC convergence, we must also understand the likelihood for margins to
mean revert.
5.4%
4.9% Margins can fall for a number of reasons. Cyclical pressures on overall
company volumes can result in declining sales, creating reverse operational
3.5%
2.3% leverage from the fixed cost base. Rising expenses, such as the price of
inputs used to manufacture a product, may not be recouped by passing on
Market-relative
return delivered the cost to end customers. Alternatively, newly introduced regulations can
over 5 years
-0.2%
push up the cost of doing business for market participants and limit the
potential for future price increases. Most worrying, perhaps, competitive
-1.4%
-2.6% forces can incite pricing pressure on goods and services, resulting in
falling margins. While margin pressure from cyclical forces will typically vary
-4.3%
-5.7% through time, competition can be a more perpetual force. This is why the
durability of a company’s competitive advantage is so important.
-6.8%
Similar to our prior work (Equity Investing the Quality Way, May 2016),
-9.0% we examined the extent to which top-quartile (Q1) margins (i.e. companies
with margins in the top 25% of the universe) fall over a rolling five-year
period between 1988 and 2016, breaking the universe down into its
-12.5%
-12.9% respective GICS sectors4. Figure 3 shows the average total decline for

But ending in: Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4

Q1 margins by sector. In line with our work on ROIC, high margins have
also shown a tendency to erode over time and mean revert to the market
Proportion of average. Again, however, consumer staples, healthcare and information
companies 58 22 10 10 24 38 24 14 11 26 39 24 7 14 26 53
technology sectors have demonstrated much greater resilience than
per group (%)
other sectors.

Source: Investec Asset Management analysis of Factset and MSCI data.

Note: Quarters are cumulative as at 31.12.16.
3
We have used the operating profit (EBIT) margin rather than the gross profit margin as this is
more comparable across companies and industries. For certain businesses the gross margin is
either irrelevant or not reported by the company. The operating profit margin is often referred to
as the earnings before interest & tax (EBIT) margin.
4
The universe base for the purposes of this analysis is the MSCI ACWI, with measurement of
margin movements on rolling forward five-year periods from 1988 to 2016. Companies with
negative profit margins at the start of the five-year measurement period are excluded, as are
those with unsustainably high margins greater than 100% (i.e. above annual sales generated).
Furthermore, any companies not classified within the GICS Sector/Industry framework are also
excluded.

[ 36 ] [ 37 ]
 Figure 3: Significant divergence in margin decay profiles by sector for companies with Q1 Figure 4: R&D investment drives innovation and helps sustain a company’s competitive
margins for the period between 1988 and 2016 advantage

0 10 84% 90
76% 80
-1
8 7.5% 65% 70
-1.4% 55%
-2 6.0% 54% 60
-1.8% 6
42% 50
-3 -2.5% 37%
32% 40

Percentage (%)
4 29%

Percentage (%)
-4 2.6% 30
-3.9% 5%
-4.1% 2 1.7% 1.3% 2% 20
-5 0.7% 0.5% 0.4% 0.2% 0.1% 0.0% 10
-4.9% -4.8%
-5.1%
0 0
-6
-5.8%

technology

Healthcare

Consumer
discretionary

Industrials

Materials

Telecoms

Consumer
staples
Energy

Utilities

Real estate

Financials
Information
Percentage (%)

-7 -6.7%

-8
-7.7%
R&D as % sales (LHS) % of companies with published R&D figure (RHS)
-9
Consumer
discretionary

Consumer
staples

Energy

Financials

Healthcare

Industrials

Information
technology

Materials

Real estate

Telecoms

Utilities
Source: Investec Asset Management, FactSet, 31.03.17

Overall, investment in the sources of a company’s competitive advantage,

through R&D and A&P, is a key factor in its ability to sustain ROIC and
Source: Investec Asset Management, FactSet, 1988-2016
margins and, as a result, deliver long-term value creation.

Significant research and development (R&D) investment has been key

Long-horizon return opportunities – active ownership and
to the sustainable growth, ROIC and margin of Quality sectors. R&D
stakeholder relationships
investment helps drive product innovation and improves brand awareness
As typically long-term shareholders, Quality investors are ideally placed
and loyalty. This not only contributes to self-funded future growth
to engage actively with company management and ensure that capital
and employment, but also strengthens barriers to entry and protects
allocation is fully aligned with the long-term interests of shareholders.
companies from disruption and competitive threats. As illustrated in Figure
Active ownership and engagement helps to assess, and raise if
4, given their consistent cash generation, capital light Quality sectors have
appropriate, governance issues such as risk management, board balance,
typically been able to invest more heavily in R&D as a percentage of sales.
audit, remuneration, and shareholder rights. Importantly, this can also be
The figure for consumer staples is artificially depressed because it includes
extended under a Quality approach to capture stakeholder, as well as
the food and staples retailing sector, which has low levels of R&D spend
simply shareholder value.
and is typically avoided by Quality investors, and also because it excludes
The think-tank, SustainAbility, defines a stakeholder as “any individual
advertising and promotion (A&P), which is a significant expenditure for
or group that may affect or be affected by a company’s activities”.
consumer staples companies to support their brands.

[ 38 ] [ 39 ]
 A non-exhaustive list of stakeholders includes not just management
teams and shareholders, but also governments, regulators, society,
employees, customers, competitors and suppliers. The 2006 Companies
Act in the UK is explicit on the role the board of directors must play to
promote the success of a company. Directors must consider the long-
term consequences of the decisions they take, and the interests of the
company’s ‘members as a whole’. In the 2012 Kay Review of UK Equity
data from the Carbon Disclosure Project, Figure 5 shows the significant
differences in carbon intensity between companies in capital light versus
capital intensive sectors of the market (as measured by tonnes of CO2
equivalent per million US dollars of revenue). The average carbon intensity
is significantly lower in capital light Quality sectors.
Figure 5: Average carbon intensity significantly lower in capital light Quality sectors

Markets and Long-Term Decision Making Kay argues, “long-run business

success depends both on the relationships that companies enjoy with their Financials 14
stakeholders, broadly defined; and on the legitimacy and sustainability of Healthcare 34
the market economy in which they operate”. Information technology 58 Capital
light
A company’s business practices and capital allocation decisions need Consumer discretionary 57
to foster strong and sustainable relationships with all key stakeholders. Consumer staples 81
The range and importance of stakeholders will vary by company, but Telecommunication services 59
in all cases these relationships are not just a matter of corporate social Real estate 87

responsibility, but a prerequisite for delivering growth and sustainable Industrials 174 Capital
intensive
development. Successful engagement with stakeholders can provide Energy 616

important business and customer intelligence, open new markets, reduce Materials 985

risk, improve supply-chain efficiency, build brand loyalty and reputation, Utilities 2,620

and support creativity and innovation. It can lead to improved employee 0 500 1,000 1,500 2,000 2,500 3,000
Average carbon intensity (tCo2e/US$m revenue)
satisfaction, which itself can lead to enhanced productivity, as well as talent
retention and attraction. Companies with sustainable business models, and
Source: MSCI ESG research, 2015
business practices that support the society and environment in which they
operate, can enhance their returns and cashflow, and lower their risk and
cost of capital. Building and sustaining strong stakeholder relationships Long-horizon return opportunities – capturing systematic
can itself be a key competitive advantage, supporting long-term value mispricing
creation. Gaining a deeper insight into a company’s suppliers, customers As described, the market undervalues the ability of Quality companies with

and competitors can help to generate new investment ideas for Quality enduring competitive advantages, disciplined capital allocation and a focus

investors. on sustainability, to deliver persistently high ROIC and margins. This, in

One important example where Quality companies are well-aligned with itself, is a systematic mispricing of quality stocks on a long-term view, of

stakeholders is climate change. Quality investing avoids the most capital which the patient active quality investor can take advantage.

intensive areas of the market, with typically the worst CO2 emissions, such A quantitative Quality approach, alone, does not capture the full extent

as energy, materials and utility stocks. Many Quality companies are also of the long-term mispricing. Active qualitative research is essential to fully

actively increasing their focus on sustainable business practice – in some assess the sustainability of a company’s business model, competitive

cases, with clear carbon footprint targets. Using MSCI analysis and 2015 advantage and stakeholder relationships. Commonplace headline

[ 40 ] [ 41 ]
 Quality metrics may not by themselves show, for example, how strong a
company’s competitive positioning and market share really is, the impact
of short-term currency movements, its dependence on the economic
cycle, its relationships with key stakeholders, or business tail risks, such
as regulatory risk or over-reliance on a single product, market or customer.
Aggressive accounting and financial engineering can distort earnings-
based metrics, giving a false picture of the actual health of a company,
and even fairly reported figures can be misleading. For example, high
margins may reflect under-investment rather than pricing power or cost
efficiency. Overall, different levels of disclosure, accounting treatments and
calculation methodologies, as well as corporate activity leading to one-off
gains or losses, all make cross-company comparisons difficult using solely
a passive or quantitative-based approach. In-depth proprietary company
research can exploit the long-term pricing inefficiencies not captured by a
pure passive or quantitative approach.
structures and different accounting or tax regimes. This is critical in an
increasingly cross-border and global investment environment. The FCF
yield accounts for the price paid for a stock relative to the level of free cash
the company generates (its operating cashflow minus capital expenditure).
FCF yield captures the actual tangible cash-generating power of the
business. It also better reflects the available cash that can be used to
reinvest in the business for growth, or to service debt, or be returned to
investors through dividends and share repurchases.
In Figure 6, our preferred sectors – consumer staples, healthcare
and information technology – have outperformed over the last 10 years.
However, this performance has not come from a re-rating; with FCF yields
in line with history. Additionally, these sectors continue to exhibit ROIC
significantly in excess of the wider market.
Figure 6: Relative valuations remain attractive for Quality stocks

An understanding of valuation is important, as how much the market is

willing to pay for a company’s earnings and cashflows is a key determinant Consumer Information
staples Healthcare technology MSCI ACWI
of long-term performance, not just the earnings and cashflows themselves.
Here, however, the right valuation approach is required. Although 10 year 8.9% 8.7% 9.3% 4.2%
annualised
commonly used by investors, we believe that the price earnings (PE) ratio total return
as a valuation measure is a blunt tool. The metric takes no account of
how much debt a company holds and, therefore, how risky its balance ROIC 13.7% 15.5% 18.9% 9.8%
sheet is. As a result, it unfairly penalises unlevered businesses, especially
in an environment where debt servicing costs are low. The earnings figure
is based on accrual accounting, which can be influenced by a variety of 6 5.4% 5.6% 5.2% 5.0%
4.9% 5.0%
factors that obscure the underlying operating performance of the business. 5
4.3% 4.2%
Furthermore, no account is made of the quality of those earnings, and 4

whether they represent a high or a low return on the capital invested in 3

Percentage (%)
the business. This does not necessarily mean that one should ignore PE 2

valuations, but we believe there are other measures, such as enterprise 1

value to operating profit and free cashflow (FCF) yield that better determine 0
whether a stock is expensive or cheap. FCF yield (2017) FCF yield (2007)

The enterprise value includes the net debt, as well as the market
capitalisation of a company. It therefore accounts for the use of leverage Source: Investec Asset Management, as at 31.05.17
and is more reliable when comparing companies with different corporate

[ 42 ] [ 43 ]
 Again, an active approach is key, ensuring valuation methodologies used which makes them more likely to survive market downturns when capital
are appropriate and consistently applied, and crucially that valuations may be in short supply. Capable experienced management teams, aligned
are put into context, for example: longer-term history; valuations of with shareholders and other key stakeholders, reduce capital allocation
competitors; the wider equity market and other asset classes; a company’s risk. Together with valuation risk, these are the absolute risks that, if not
stage in the cycle; and the quality, growth and risk characteristics being appropriately managed, can lead to permanent capital loss, jeopardising
paid for. If one business is of far higher quality, exhibiting a consistently long-term performance.
high ROIC, with defensible market positions in a growing market, investors
should be willing to pay a differentiated valuation versus a structurally Bringing it all together
challenged, commoditised, ex growth business. When put into context, we In his assessment of the asset management industry, Andrew Haldane,
do not believe that current valuations of Quality stocks are overly stretched. executive director of financial stability at the Bank of England, concluded
in his speech on ‘The age of asset management?’, given at the London
Cost reduction and loss mitigation – minimising Business School in 2014, that “Capital that can afford to be patient,
transaction costs and avoiding permanent capital loss should be patient”. There are number of ways in which a portfolio’s risk
Finally, as well as achieving gains, equally important to long-term returns and return profile can be improved through long-term investing. An active
is avoiding losses and unnecessary transaction costs. The effect of Quality approach, driven by in-depth proprietary fundamental analysis, and
compounding is as powerful on costs as it is on returns, so that even implemented through a high-conviction, focused, low-turnover portfolio,
seemingly small transaction costs, from excessive trading, can prove is well placed to capture the benefits of long-term investing, and deliver
meaningful over the long term. The tangible costs associated with short- strong performance with below average levels of risk.
term trading are unavoidable, creating a headwind to performance.
Potentially more damaging, however, is the cost caused by futile attempts
to time the market or chase short-term performance, often leading to
significant ‘buy-high sell-low’ errors.
With regards to risk management, we believe investor attention should
not be focused on benchmark risk or tracking error, particularly when the
index itself carries inherent risks. The defensive characteristics of Quality
companies mean they may lag strongly rising markets, but what is most
important is the ability to avoid permanent capital loss. In other words,
provide downside protection and avoid losses that are never subsequently
recovered. This is essential to benefit fully from the power of compounding.
Again, Quality companies are a natural fit. Defensive recurring revenues,
often driven by repeat purchases of low-ticket everyday items, together
with barriers to entry created by enduring competitive advantages,
reduce business and operational risk. Healthy balance sheets and strong
consistent cash generation reduce financial risk, as self-funded cash
generative businesses are less dependent on capital markets for liquidity,

[ 44 ] [ 45 ]
[ 46 ] [ 47 ]
“ Can 3 African infrastructure
investment oppor tunities

breaking and sustainable development

SUMMARY: Africa is a challenging

ground
investment environment. Our expertise at
Investec Asset Management enables us to
navigate its diverse and complex economies

build an
to become an established investor through
the capital structure. The infrastructure
investments we make through our Africa

economy?
Private Markets strategies show how
long-term asset owners can contribute to
sustainable development, while generating
investment returns. In this article we

Nazmeera Moola
Nazmeera is a co-head of South Africa &
Africa Fixed Income as well as economist
and strategist for the Emerging Market Fixed
Income team at Investec Asset Management.
”
Ope Onibokun
Ope is an infrastructure investment specialist
at Investec Asset Management, prior to this,
he specialised in project and Infrastructure
Finance at Citi. He holds an MBA from Duke
University.
discuss how the demand for long-term
funding creates opportunities for public-
private partnerships in Africa. We also
detail our recent investment in a bond
issued by telecoms company, IHS Towers
Nigeria. Investments such as these act not
only as a developmental multiplier, they
also strengthen African capital markets,
facilitating further investment partnerships.

[ 49 ]
 Growing pressure on financing in African markets
African markets have gone through a challenging period between 2012
and 2016, marked by less accommodative US monetary policy, negative
sentiment towards emerging markets and the fallout from the sharp plunge
in commodity prices. Investor sentiment towards emerging markets has
improved over the last few months and many commodity prices have
enjoyed a bounce. While the fundamental structural drivers of economic
growth on the continent are still intact, lack of funding, especially in the
infrastructure space remains a challenge.
The fall in commodity prices and the subsequent slowdown in
economic growth in Africa have put pressure on both government and
international private sector financing. After steadily increasing direct
investment in Africa since 2000, Chinese entities have sharply reduced the
number of new projects since 2013. In addition, commercial banks have
withdrawn funding due to worries about the Africa growth outlook and
Basel III requirements. Government finances are constrained and rising
bond yields have pushed up Africa’s borrowing costs significantly
since 2014.
Private-public partnerships gaining traction
Africa still requires at least US$93 billion in infrastructure investment per
annum, with an estimated infrastructure funding gap of some US$31
billion per annum according to the Brookings Institution . The slowdown in
1 funds. The funding comprises both project finance and corporate finance
economic growth has had a bigger impact on the supply of capital than on
potential ventures on the continent. Many projects have been shelved. But
given the lack of facilities in many countries, there are still viable projects
and opportunities for business expansion. This is particularly true in the
infrastructure space. However, even within the broader economies, there is
a huge lack of shopping facilities, schools and accessible financial services.
We believe it is an ideal opportunity for private-public partnerships
(PPPs) to provide long-term funding for African infrastructure. This should
boost long-term potential growth on the continent. We are starting to see
PPPs gaining traction. Investec Asset Management is currently responsible
1
https://www.brookings.edu/blog/up-front/2013/10/09/financing-africas-infrastructure-gap/
[ 50 ]
funding
US$31bn gap
opportunity
Africa’s annual
infrastructure
funding
requirement is
US$93bn p.a.
for US$1.2 billion invested in African infrastructure as at May 2017. Of
this, US$670 million is through the Emerging Africa Infrastructure Fund
(EAIF), which is managed by Investec Asset Management. The remainder
is through the Investec Credit Opportunities and Africa Credit Opportunities
debt. The Credit Opportunities portfolios have 21 investments across
Africa. The EAIF is currently funding 42 projects across Africa, all of which
are run by the private sector. The bulk of them rely on offtake agreements
from the public sector.
One of the most successful countries in this space is Uganda, where
the GET FiT programme has provided a template for renewable PPPs.
Senegal and Mali have also successfully used PPPs. For example, the
EAIF has helped to finance the Tobene power plant in Senegal. The 96MW
power station provides electricity to 1.5 million Senegalese. Boosting
energy generation in Mali is also enjoying top priority, with the government
making use of PPPs in the power sector.
What is heartening is that we are seeing projects being developed in
[ 51 ]
 previously neglected countries. The government of Benin has identified
45 key infrastructure projects, worth US$15 billion, that it hopes to roll out
over the next five years. The plan is for more than 60% of these projects
to be financed through PPPs. Delays are almost inevitable, but even if
a fraction of the planned projects come to market, this points to a big
increase in required funding.
Strong demand for long-term funding
The African debt markets are much less developed than those of the
large financial markets, such as the US. In particular, the corporate credit
markets are still in their infancy. Therefore, private sector real estate
developers, infrastructure sponsors and companies are much more
dependent on either bank funding or private debt funding to grow. In the
last three years, both the breadth and depth of the credit market have
expanded significantly as the number and size of issuers have grown.
While there is some liquidity in sovereign debt markets, this has fallen
significantly in recent years. The private credit markets, which include
infrastructure, are by definition illiquid. However, investors in these areas
are well aware of the constraints and benefits of these investments.
In our view, insurance and pension funds need to develop asset-liability
management strategies that require good quality debt instruments with
long maturities to boost debt investment in the infrastructure asset class.
Currently, infrastructure projects in Africa are more likely to be funded
by development finance institutions (for example, the EAIF, International
Finance Corporation, World Bank, African Development Bank and Islamic
Development Bank) than by commercial banks and pension and insurance
funds. In developed markets, the private sector institutions provide the bulk
of debt funding for such projects. Infrastructure projects need long-term
investors who can stay invested, typically for 15 to 20 years. Because
commercial banks have a much shorter investment horizon, there are
limitations to the funding they can provide for infrastructure.
Pension funds in Africa are still relatively small. The four countries
with reasonably sized pension funds are Namibia, Botswana, Nigeria and
Kenya. Namibia and Botswana are trying to channel their funds into local
infrastructure projects. However, the flow of projects in both has been slow.
[ 52 ]
Projects have been more plentiful in Nigeria and Kenya. In those countries,
pension funds are relatively new and are therefore risk averse. They desire
liquidity – which infrastructure investing does not offer.
At the same time, developed market pension and insurance funds
are hesitant to invest in sub-investment grade African infrastructure debt
due to their perceptions around risk. Alleviating concerns around these
perceived risks is key to attracting both developed market and local
African pension fund money into infrastructure funding for projects on the
continent.
Investec support of IHS Towers Nigeria bond issue
With deep roots in Africa, Investec Asset Management is playing
a key role in reducing the infrastructure funding gap, and helping
to meet development goals with infrastructural multipliers, such as
telecommunications. Our investments in telecoms company, IHS Towers
Nigeria, through our African Credit Opportunities Fund (ACO) and the
US$670 million fund we manage on behalf of the Emerging Africa
Infrastructure Fund (EAIF), demonstrate our conviction. The EAIF is the
largest facility that falls under the banner of the Private Infrastructure
Development Group (PIDG), which has been a catalyst for infrastructure
investment on the continent.
Positive development impact of the Emerging Africa
Infrastructure Fund
The EAIF is contributing to meeting the UN SDGs by 2020 to support
developing countries. It is an example of how financial actors can make a
contribution to long-term sustainability and development as outlined by the
BSDC. The EAIF ensures that all projects it finances comply with both the
relevant national legislation and with international best practice, as set out
in the International Finance Corporation’s (IFC) Performance Standards on
Social and Environmental Sustainability and the supporting environmental,
health and safety guidelines.
The EAIF projects are subject to rigorous due diligence processes and
assessed against a number of cumulative and annual development targets.
This includes the number of people who receive improved quality of
[ 53 ]
 services, and the magnitude of private sector investment that is mobilised,
particularly in fragile countries. According to the EAIF, for every US dollar
it has committed, a further US$15.3 has been committed by the private
sector. For every million dollars committed by the EAIF, it is estimated
that 139,138 people will have either gained services, or have an improved
quality of services. The EAIF has also remained committed to its fragile
states and OECD Development Assistance Committee targets.
Evaluation of investment in the IHS Towers Nigeria
bond issue
IHS Towers is the largest independent telecommunications tower
infrastructure company in Africa, leasing tower space for communications
equipment to mobile network operators as well as providing opportunities
to new market entrants and bespoke construction of new towers. Both
the EAIF and ACO have participated in four rounds of financing with IHS
Towers Nigeria. Investec Asset Management was also an early investor
in IHS Towers Nigeria equity through our Africa Private Equity strategy.
Our most recent investment in IHS Towers Nigeria, in its US$800million
inaugural October 2016 Nigerian bond issuance, was made in difficult
market conditions. EAIF was the much needed joint-anchor investor
alongside the IFC.
The recent IHS Towers Nigeria bond issue was a five-year, senior,
unsecured, high-yield issue with a coupon rate of 9.5%. The nearly
US$1 billion bond issue was large for the Nigerian market, and particularly
significant because it represented the largest single-tranche bond of any
Nigerian entity, the largest ever US-dollar denominated high-yield deal in
Africa, and the first indigenous Nigerian instrument with an issue rated
higher than the sovereign.
We believe this benchmark-setting issuance broadens African debt
capital markets, paving the way for other corporate issuers to follow. For
example, Helios Towers (a telecoms tower company in Africa) decided to
follow IHS by issuing a similar bond in March 2017. Helios Towers would
not have taken such a step if the IHS issue had not been a success.
In addition, the IHS bond issuance facilitated a more liquid asset class
for investors. Though it is unsecured, it pays an attractive coupon rate
[ 54 ]
compared to conventional, secured commercial loans, which are also more
illiquid. Further, as senior bondholders, we have sought to mitigate risk with
measures such as negative covenant pledges. Investors in Nigerian assets
face macroeconomic headwinds including foreign exchange constraints
and a volatile naira.
The quality of investments in such markets is therefore key. In the case
of IHS Towers Nigeria, several metrics recommend it: a significant portion
of its income is US-dollar denominated, and its revenue base is stable. The
bond issue will allow IHS Towers Nigeria to continue to expand its network
and tower services throughout Nigeria. With our business having started in
Africa, we are particularly pleased to have been instrumental in the success
of this bond issue.
As joint-anchor investor, our mandate for the EAIF played a key
role in stimulating awareness and confidence in the bond issue and
demonstrating international appetite for investing in strong African
businesses. Participating in this bond issuance has also given
us the opportunity to contribute to the development of Nigeria’s
telecommunications infrastructure, which in turn is central to stimulating
the wider Nigerian economy.
Through effective structuring and collaboration in this successful
project, the EAIF is contributing to capital market development, while
closing the funding gap in African infrastructure, and at the same time
generating an attractive yield. The project’s developmental impact also
extends to job creation, and makes the roll out of telecommunications
services, broadband and 4G more cost efficient, and therefore more
affordable for Africans.
Our engagement in IHS Towers demonstrates that, while investing
in Africa can be challenging, our substantial experience in African public
equity, private equity, credit and emerging market debt makes us well-
placed to identify and manage investment opportunities. Such investments
are also demonstrative of how both economic development and private
sector commercial imperatives can be addressed with thorough research
and canny allocations.
[ 55 ]
[ 56 ] [ 57 ]
“Does Africa
add up?
”
Prof Morten Jerven
Morten is visiting professor of development
studies at the Norwegian University of Life
Sciences. He has published several books
on African economics about patterns of
economic growth and development statistics.
4 It’s all in the numbers:
why good statistics are
key to infrastr ucture
investment in Africa
SUMMARY: The success of Africa’s economic
development depends on infrastructure
investment. Such investments can bring
financial reward for investors, but require
patient capital and a willingness to take a
long-term view in a sometimes challenging
environment. Morten Jerven, Professor
of Development Studies, explains why an
accurate assessment of African infrastructure
investment should use good statistical data
and freely available information. These are
key factors required by investors to commit
more financing to infrastructure investment
and accurately measure the developmental
impact on the continent.
[ 59 ]
 Infrastructure and economic development
In one of the pioneering texts of development economics, The Strategy
of Economic Development, by Albert O. Hirschman, published in 1958,
infrastructure was considered part of what he called ‘social overhead
capital’. Investment in infrastructure was advocated not only because of its
direct effect on final output, but because it had linkages to all sectors of the
economy. It also permits, and even invites, other productive investments to
enter the market.
The reasonable expectation was that infrastructure investment would
be provided by the public sector or by regulated private agencies. The
investments were lumpy and most of their returns were indivisible. In
contemporary economics, we would use the term ‘positive externalities’ to
explain a situation when an investment has high positive returns, but these
returns cannot be captured privately. As the saying goes, the tide lifts all
boats. Analogously, that also means that it is complicated, and therefore
costly, to charge all boat owners for the tide. Further, opportunistic boat
owners would seek to not pay for the tide, and rather catch a free ride.
Underinvestment in African infrastructure:
coordination problems
There is good reason to think that we have a current underinvestment
in infrastructure in African economies. Inflows of investments in the past
decade have occurred despite the fact that Africa remains a high-cost
location. The costs of doing business caused by red tape, bureaucracy
and state control (e.g. import regulation, capital movement restrictions)
have reduced since the 1980s. However, physical barriers have remained
high, so that it is only when demand and prices in world markets have
also been very high that these elevated costs have been overcome, and
growth has occurred. Liberalisation, if taken to mean ‘good policies’ and
‘good governance’ can only take African economies so far. Strategies for
how private and foreign capital can increase ‘social overhead capital’ are
also required for growth diversification, and to reduce the volatility and
price-dependence of the economic growth that African economies have
experienced in the past century.
When growth is constrained by high cost infrastructure it results in
[ 60 ]
untapped positive externalities from such investments, and economists like
to think of these as ‘coordination problems’. Drawing from the important
work of Nobel Prize-winning economist, Ronald Coase, on transactions
costs and institutions, these coordination problems could be solved if the
transaction costs are lower and information becomes more freely available.
A classic example would be when two or three farmers agree to share the
cost of irrigation, because it would benefit all three farmers in the area.
The challenge of inaccurate GDP statistics:
information problems
Coordination problems are often solved by states. In particular, when many
parties are involved the cost of negotiating solutions will be very high. But
states may become reluctant to enter such infrastructure projects, due to
fiscal constraints or because information about the returns to growth are
unavailable.
In Africa this can be particularly problematic. Especially because
an important metric, such as gross domestic product (GDP), has been
poorly measured in African economies. Consequently, rates and sources
of growth in Africa have also been poorly measured. For example, in
November 2010, Ghana Statistical Services announced new and revised
GDP estimates. As a result, the estimated size of the economy was
adjusted upward by more than 60%, suggesting that in previous GDP
estimates, economic activities worth about US$13 billion had been
omitted. While this change in GDP was exceptionally large, it did not turn
out to be an isolated case in Africa. In April 2014, the Nigerian Bureau
of Statistics declared new GDP estimates. GDP was revised upward to
US$510 billion, an 89% increase from the old estimate.
The big jumps in GDP in these two countries took place because the
benchmarks for measuring the economy were updated from 1990 to 2010
in the case of Ghana, and from 1993 to 2006 in the case of Nigeria. Not
only are the countries richer than previously thought, but the updating
of benchmarks is a tangible indicator that statistical systems are being
improved. Of course, it also points to the underlying economic information
about which sectors of the economy are important, and the rates of return
to capital investment in the economy that are missing or misleading.
[ 61 ]

+89% GDP
Nigeria becomes Africa’s biggest economy
after the revision of its GDP
It is important to remember that this is not only a matter of accuracy.
Missing information, or blind spots, certainly play a role.
I was at the Uganda Bureau of Statistics in 2011, conducting interviews
about how the economy was measured. They told me then that if they
were to believe official statistics, based on collected trade statistics
in Mombasa, the economy was in decline. For colonial rulers, who
established this system this made sense, since anything of importance
went through the east African port, but for an independent Uganda it made
less sense to compile its trade statistics based on Kenyan information.
The statisticians in Kampala knew that the real sector data could not make
[ 62 ]
sense, since they knew that contracts on cement and construction material
indicated a boom. Someone had the bright idea to start measuring how
much cement and construction material crossed the borders to South
Sudan, Democratic Republic of Congo and Rwanda, and found that in
focusing in on Mombasa, they had been looking the wrong way.
Further, investments in mobile money systems like Mpesa in Kenya
took place not because of availability of high quality information about the
need for savings and transfers in Kenyan households, but rather in spite
of such information being available. We know of the investments that have
been made in spite of the lack of information, but know less about all those
investments that were not made due to lack of information.
Empirical support for infrastructure investments
Based on theory we could make the case for infrastructure investments,
but, as we know, investors prefer empirical support to theoretical
support. Symptomatic of both coordination problems and information
problems, there are few empirical studies of the returns on investments
in post-colonial Africa. However, recent studies of the effects of colonial
railway investments on export growth shows how transformative these
investments were. The Gold Coast (a former British colony and now part
of Ghana) went from not producing cocoa at all in the 1880s to being the
largest producer of cocoa in the 1920s. The growth in the Gold Coast
economy until the 1920s, and the continued expansion, was supported
by the railway investment, and recent research shows that patterns of
production and location of cities were determined by these infrastructure
investments.
As mentioned, it is understandable that investors prefer empirical
evidence to a theoretical case for returns. Ironically, theory also predicts
that information will be one of the constraints for coordinating investment.
It will be the coordinating powers and their demand for perfect information
that will determine whether infrastructure will be a constraining or enabling
factor in Africa’s development.
[ 63 ]
[ 64 ] [ 65 ]
“ Will 5 Perspectives on
corporate pensions 

changing SUMMARY: Mark Walker is responsible

for overseeing €24 billion of Unilever’s

values today
75+ worldwide pension schemes. He talks
here to Katherine Tweedie about how his
advocacy for long-termism shapes Univest’s

create value
approach to sustainability and its overall
philosophy as a corporate citizen, and
how this influences investment decisions.
Katherine and Mark discuss the definition

tomorrow? of, and arguments for, long-term thinking,

from a defined benefit and defined
contribution perspective. They also consider
the actions of industry leaders to integrate
longer-term risk factors into investment
strategies, while maintaining fiduciary

”
Mark Walker
Prior to joining Univest, as chief investment
officer, Mark was a Partner at Mercer and
responsibility to deliver the required returns
Head of the London Investment Consulting and manage risk.
Unit. Mark has over 20 years’ experience
in actuarial, pensions and investment
consultancy.

Katherine Tweedie
Katherine is executive director at the
Investment Institute. She is responsible for
providing research and insight to financial
institutions on geopolitical, economic and
investment trends shaping portfolio strategy
and asset allocation decisions.

[ 67 ]
 KT As Global CIO of Univest with the responsibility of
overseeing more than 75 pension schemes across 40
countries, what are the most urgent investment and
leadership challenges facing you today? How unique are
these issues to Univest or are they similar to other
asset owners in the industry?
MW At Unilever, pensions are part of the employee reward
framework. It’s an employee benefit and, while we
have as many global standards as possible, there are
local employment issues and requirements which we
need to address. Today, we still have around 85% of
our global pension assets in legacy defined benefit
(DB) plans and we’re clear on their targets and aims.
We are de-risking over time and almost all of our DB
pension funds are closed. However, as we de-risk, we
still have the responsibility to deliver a certain
level of return to improve funding levels. Given the
strength of the company covenant, the chances of
Unilever DB members not getting their benefits is
very low. However, on the defined contribution side
every investment decision made translates to a change
in a member’s ultimate benefit. In addition, we have
a very long-term investment period: if a Unilever
employee starts saving in their 20s, they may still
want replacement income in their 90s. That’s a 70-
year investment period, but the market does not often
operate with that perspective and this is a challenge.
Personally, my biggest leadership challenge is
having so many stakeholders, particularly with
multiple pension schemes. We are also a regulated
asset manager in The Netherlands, so I have a
Supervisory Board. We have regulators, service
providers, over 100 fund managers globally,
custodians, accountants, and lawyers. Managing the
complexity of our global environment and all the
service providers and stakeholders that sit in there
is a challenge.
[ 68 ]
KT Our discussion today is on the topic of ‘long horizon
investing’. How do you define long-termism at Univest?
MW It’s a state of mind. You need to be very clear in
your objectives and those objectives occur over
a multi-year period when it comes to growing and
protecting wealth for hundreds of thousands of current
and former Unilever employees. The investment industry
often operates in a much shorter-term fashion. It’s a
state of mind that just makes you reflect constantly
on whether you are taking decisions and providing
advice based on an outcome which is 10-plus years in
the future, rather than the next 2 or 3 years.
KT Indeed, some view alternatives or specifically private
equity as the way to tackle long-term investing. But
many private equity investors still take a ‘get-in-
and-get-out’ approach, turning a company around within
three-to-five years. Is that long term in your view?
MW Some say the long term is holding a series of
successful short-term positions. However, this
doesn’t necessarily help the industry deliver better
investment solutions to the underlying investors or
pension members, because short-term behaviour affects
the whole value chain.
Companies often think that their shareholders are
focused exclusively on the short term, so they put
their energy and planning into delivering short-term
earnings results. This, in turn, affects the way they
report to the market, as well as the behaviour of
regulators. As an interrelated ecosystem, it’s crucial
to avoid short-termism and for each stakeholder to
focus on creating more value through a longer term
approach, at each stage of the value chain from the
individual company level up.
KT Despite this knowledge, it is surprising to see the
[ 69 ]
 continuation of behavioural biases towards short term,
knee-jerk reactions occurring time and time again.
For example, investors looking at past performance as
an indication of future performance and then buying
at the top of the market. When the market turns the
short-term behaviour kicks in with ‘school boy’ errors
of buying high and selling low. As investors trying to
pursue a more long-term philosophy, what is needed to
change these behaviours?
MW You need to look at governance structures, expertise,
skillsets and incentives that affect decision making,
as well as measurement periods and reporting. These
things are challenges for us in creating investment
strategies which deliver the required returns while
appropriately managing risk. Comparing one short-
term number to another and saying a fund manager is
successful because this number is bigger than this
number is easy to explain.
We live in a commercial world and to win business
you take a certain view. The asset owner must
understand the fund manager and that cannot come
purely on the basis of short-term, or even long-term,
past performance. Instead, you have to understand the
underlying business, the philosophy, the management,
the alignment of interests, the individual managers,
how it operates and how changes could be made. The
most important element is consistency of philosophy,
people and process and if those are in place, it is
easier to get through different market and performance
cycles.
KT Do you think that short-termism inhibits real value/
alpha creation? How do you, as an asset owner, shift
from short-termism to long-termism to better capture
this premium?
MW I think interest in taking a longer-term view is
[ 70 ]
growing. It’s a mind-set issue about value creation,
delivering long-term returns and managing risk.
The world is changing, the population is growing
and the climate is changing, which leads to other
economic changes. How do we allocate capital in this
environment and how do we think about delivering
returns to our underlying beneficiaries while
managing risk? What are the longer-term risks that
are evolving or entering the system? How do we make
money from them and how do we protect capital?
Some companies have adopted a more long-term
perspective than others. They face challenges in
sticking to that perspective when they need to report
to many stakeholders and market participants including
asset owners, fund managers, brokers and other service
providers. But I do think there’s a growing body of
evidence that demonstrates the benefits of taking a
longer-term view. Now we need practical solutions to
things such as integrating longer-term risk factors
into an investment strategy. We also need consultants
to integrate longer-term risk factors into their
capital markets assumptions and scenario planning.
KT Do you mean factoring in the ‘externalities’ of our
investment decisions?
MW Externalities, yes, in environmental, social and big,
world-changing senses. Perhaps there’s a third angle
for analysis here. If risk and return were equivalent
between two investments but one is more aligned with,
for example, the Sustainable Development Goals, then
that investment will be preferred.
KT When you try and reconcile ESG with the fiduciary
responsibility to get the best returns, how do you
explain that third dimension to your shareholders
when it doesn’t necessarily give you an immediate
return today?
[ 71 ]
 MW In the past we’ve had the wrong narrative about
fiduciary responsibility. When ESG comes up, people
immediately ask, “What are you going to tell me that I
can’t invest in?” It often becomes an ethical issue.
This is investing. Risk and return will always be the
main fiduciary considerations, but ESG factors are
financial, they can have an economic impact! Maybe
the way to think about this is: you have got risk and
return and then you have got the evolution of risk
and return over time, ’future financial’ if you will.
That’s the third element.
KT Are you concerned that the rise of passive investing
removes the impetus for asset owners to engage
actively on ESG and stewardship with underlying
portfolio companies?
MW Unless you are managing the money yourself, you will
appoint one of the large passive providers and then
you have to be sure that they are going to be good
stewards of your assets. We need to engage more with
the passive providers as they are huge owners of
assets. They have a significant role to play where
there is poor corporate behaviour or a potential
for misalignment of interests. The large passive
providers have big stewardship, engagement and voting
functions. We should challenge more whether they are
voting appropriately or applying appropriate pressure
onto company management.
KT Have you done anything different within your
investment teams or with your external partnerships
to influence the way you tackle risk, return and
externalities over the long term?
MW We are evolving, but it’s a challenge to incorporate
longer-term risk factors into more traditional ways
of thinking about risk and return. We used to have
[ 72 ]
a strategic goal that focused on sustainability and
ESG in itself. Now we feel that that’s something to
incorporate into everything that we do. At the team
level all my staff recognise the importance of ESG
and a long-term perspective.
We are also thinking about how we work with our
external fund managers, the questions that we ask, the
monitoring that we do and how those service providers
are integrating long-term thoughts and ESG issues
into investments. If we think that value creation
occurs in the long term, then we want the industry
to behave that way. So we have to try and help the
industry move in that direction.
KT And are you pioneering any new product development
that allows you to take a more long-term approach?
MW We have tilted portfolios towards better ESG or long-
horizon integration. We will think about the balance
of that between the money that we manage internally
and the money we have externally. We are also
thinking about how we could better structure longer-
term partnerships with a number of service providers.
There is a further opportunity to make a conscious
effort for our pension funds to invest in more
sustainable investment opportunities: those with a
degree of diversification, a clear financial rationale
and aligned with the way the world is changing.
KT Unilever CEO Paul Polman has been a champion of
integrating sustainability into both the corporate
culture and business strategy of the company which in
turn has influenced many other multi-nationals. Do
you see that same sense of ‘change leadership’ in our
industry today?
MW My peers and I, CIOs, CEOs of pension organisations,
have a job to do, which is to deliver a level of
[ 73 ]
 return within a risk budget. It has got to be very hired are people who can live out that purpose and
clear why the issues we are talking about are going to really create that value and wealth for millions of
benefit our beneficiaries. I have a strong view that people around the world. It can sound quite grand
they will, whether that’s just purely from a long- when you put it like that but that is what we are
termism perspective or the fact that these issues are, here to do. We often inhabit this short-term world
indeed, financial issues and not non-financial issues. where we are just trying to beat a benchmark and we
That being said, we need to become more passionate. forget about what the money actually is there for.
I think trustee, investment decision-makers and those
who provide advice, including consultants, have a big
role to play. My worry is that there are too many
stakeholders, NGOs, working groups and the like, so
we will not be sufficiently coordinated to be able to
effect the real change needed. How we can coordinate
these groups into heading towards a single vision, a
single goal of doing things better, avoiding perhaps
some of the ethical stances and making them very
investment-receptive. The things that will really
appeal to fund managers, CIOs, CEOs of organisations
and so on, and putting them in the context which says
this is going to be a benefit for everybody and, if
you will, it will help make the world a bit of a
better place as well.

KT Given this discussion is about the long term, looking

out ten years, can you make one prediction about our
industry?

MW You have asked me for one thing and that’s a

challenge. I will give you my one hope for ten years.
I would like to see our industry have a more obvious
clarity of purpose. I think lots of corporates now are
demonstrating the value from having a clear purpose. I
don’t think the investment industry has it yet. It’s
relatively clear that there is a purpose to create and
protect wealth for the underlying savers whose money
we manage or oversee, but I think there is a bit of a
trust issue. With a high degree of clarity of purpose,
the decisions that we make and the people that get

[ 74 ] [ 75 ]
[ 76 ] [ 77 ]
“ Is green
the colour
of money?
Naasir Roomanay
Naasir is an ESG analyst within the
ESG Research team at Investec Asset
Management. Naasir works with investment
teams, client groups and operations teams
on a range of ESG areas.
Roger Mark
Roger is a product specialist in the Emerging
Market Fixed Income team at Investec Asset
Management. He manages aspects of the
team’s operations and marketing.
6 Long-ter m oppor tunities
and risks in carbon
management: the case of
sovereign debt investing
SUMMARY: Asset owners want more
sustainable investment options – increasing
the need for accurate reporting of climate
change exposures to assess long-term
”
risks and opportunities. This article
covers recent developments in carbon
management in the financial sector, and
the accompanying framework at Investec
Asset Management. The case for carbon
considerations in sovereign debt investing
in emerging markets is explored along with
the need for governments to do more for
institutional investors, now that the finance
industry’s key role in achieving a low-
carbon environment has become evident.
This is particularly salient given that carbon
management in sovereign fixed income
Desné Masie
Desné Masie provides thought leadership
remains at a formative stage.
to the Investment Institute. She is a fellow in
international political economy at Wits School
of Governance, and was capital markets
editor at Financial Mail.
[ 79 ]
 Why climate change matters for long-term asset
owners and managers
For custodians of long-term capital, strategic action around the current
and future impact of climate change should be a priority. Climate change
will occur over a long timescale and delays in taking action raises the risk
of “those extreme scenarios where our options to deal with this threat to
the global economy will be few”, according to the Institute and Faculty of
Actuaries1.
The actuarial community’s views reflect an increased awareness
among asset-owners of the prominent role long-term capital can play
in transitioning to a low-carbon economy. The risks and opportunities
accompanying climate change for institutional investors can be addressed
with carbon management initiatives. Such initiatives are designed to
promote environmental effectiveness in organisations, particularly with
regard to the consumption of resources that contribute to climate change.
This can be done through accurate reporting of exposures – allowing for
appropriate change management – which can be designed to capitalise on
or mitigate these risks.
Asset owners, therefore, not only have a fiduciary duty to invest
accordingly, but also to engage companies, regulators and their clients, if
a global shift to integrating carbon management into long-term business
strategies is to take place. Governments also have an important role
to play in facilitating financial sector initiatives towards decarbonisation
through providing a supportive policy environment and accurate economic
data. This is particularly the case for carbon analysis in sovereign fixed
income investing, a critical area which up until now has been neglected.
The financial sector seeks action from regulators,
governments and companies on climate change
The Belgian economic think-tank, Bruegel, has urged financial institutions
to measure their exposure to ecological imbalances. They have
encouraged policymakers to develop and implement standards for this.
1
Fiona Morrison, 20 October 2015. ‘Transition risk is real and needs to be addressed’, Financial
Times: https://www.ft.com/content/dc49a75e-7658-11e5-933d-efcdc3c11c89
[ 80 ]
The push for improved carbon management has been supported by
investor initiatives such as the UN Principles for Responsible Investment
(UN PRI), the investor-led Global Investor Coalition on Climate change
(GIC), and the Carbon Disclosure Project (CDP). The insurance industry
has been working hard on carbon management issues for many years.
The Economics of Climate Adaptation Working Group, championed by
Swiss Re, in 2001 published a framework to quantify climate change risk
to assist sovereigns.
In October 2016, Moody’s Investor Service set out how it now captures
the credit implications of physical climate change for sovereign issuers. In
December 2016, the governor of the Bank of England, Mark Carney, and
the chief executive officer and founder of Bloomberg, Michael Bloomberg,
called for financial disclosure of climate change exposures to be regarded
as material risks.
The challenge, though, is maintaining momentum and commitment to
decarbonisation.
Some countries either made big commitments, which continue to be
delayed, or have reversed policies when a new administration comes into
power. Therefore, governments are critical when providing a supportive
investment environment for long-term asset owners committed to the
sustainability transition and decarbonisation.
The UK and France have made progress. The UK Companies
Act made it compulsory in 2013 for all companies to report on their
greenhouse gas emissions. France was the first country to introduce
mandatory climate change-related reporting for institutional investors
through Article 173 of its energy transition legislation. The French Pensions
Reserve Fund accordingly made explicit commitments to gradually reduce
its exposure to CO2 emissions and fossil fuel reserves.
At the other extreme, in June 2017, the US withdrew from the COP21
Paris Agreement altogether. On the face of it, the presidential decision
to withdraw from the Paris Agreement has the potential to derail global
climate policy. However, comfort can be drawn from the global reaction,
which has seen other signatories united in reaffirming their commitment
to the agreement. There has also been commitment from within the US
itself, with notable public figures, such as Michael Bloomberg, pledging
[ 81 ]
 to fill the funding gap for programmes already in place. There are multi-
state initiatives in place in the US, such as the Midwest Greenhouse What is the price of decarbonisation?
Gas Reduction Accord and Western Climate Initiative. Further, there are
several other initiatives and climate action agreements that will continue
to exert influence alongside the Paris Agreement with the support
of local governments. Hawaii, which is under significant threat from
climate change, has defied the US president and formally continued its
commitment to the Paris Agreement.

Our positioning for the sustainability transition

At Investec Asset Management, we have made several commitments that US$34.4trn
we hope will enable us to harvest the opportunities of the green transition.
In response to the growing momentum for improved carbon management
= 30% of
in financial markets and increased demand for sustainable products from global GDP
our clients, our senior leadership supports both internal and external efforts
on climate change. The stewardship of our clients’ capital is included in our
sustainability framework. Our Climate Change statement2 further outlines
our commitment to act in four key areas: engagement; measurement;
reallocation of capital; and advocacy.
But besides mitigating transition risks, we are vigilant for opportunities.
Research by our Natural Resources investment team in 2016 found
that opportunities for the financial sector industry around a changing
energy future are enormous. Over US$34.3 trillion is needed to invest
into new power generation projects required to meet the climate change
targets set out in the Paris Climate Agreement.
Our Emerging Market Fixed Income (EMFI) team has also been
exploring a potential framework of analysis for carbon exposure in
sovereign fixed income, an area that to date has been neglected by
investors. The possible directions in which carbon considerations for The investment required to meet
sovereigns can take place is set out by Roger Mark, from our EMFI team. climate change targets in the
Paris Agreement is equal to roughly
30% of global GDP
2
Climate change statement can be found: http://www.investecassetmanagement.com/
international/professional-investor/document/pdf/Investec-Stewardship-Policy.pdf

[ 82 ] [ 83 ]
 Carbon considerations in sovereign fixed-income investing
There are a number of reasons for the lack of a coherent framework for
carbon exposures in sovereign fixed-income investing. Bondholders are
not owners. It is thus a moot point as to what extent they are financing
carbon emissions. Moreover, is a government bondholder financing state
emissions only, or economy-wide emissions as well? It is also much easier
for equity investors to engage and influence company management. As for
disinvestment, it is generally a non-starter, given the need for low-risk yield,
and the relatively small universe size, particularly in developed markets.
However, given the potential impact of carbon development on global
economies, the time is fast approaching where investors must consider
carbon trends in their sovereign investments. This is particularly important
in emerging market debt, given emerging markets formative stage of
development and greater susceptibility to climate change.
A sovereign perspective
Unlike some other environmental, social and governance factors, there is
little evidence that environmental factors have a relationship with bonds
and currency market returns. However, this will likely change as climate
change risks become more apparent. From an investment perspective
there are two key risks: transition risk and physical risk.
Transition risk refers to the risks inherent in moving to a low carbon
world. Examples of this include stranded assets and the direct and indirect
costs associated with a changing energy mix of an economy. The impact
of transition costs can be felt across an economy’s key metrics – growth,
fiscal health, inflation and external accounts can all potentially be affected.
Thus, for sovereign emerging market debt investors, it will be crucial to
address this in the coming years.
A good starting point is to examine the carbon profile of a sovereign
universe. As the Finance for Change initiative has argued, a carbon
intensity approach is likely the most relevant metric for sovereign debt
3 there are also many opportunities.
3
Carbon intensity is defined as CO2/US$ million GDP. It can be measured on a purely production
basis, or a consumption based approach, which takes into account embedded emission from
net trade.
[ 84 ]
portfolios. The level of a country’s carbon intensity allows for a better
understanding of its level of emissions and carbon exposure. This is useful
for disclosure purposes, as well as for providing a framework for cross-
asset class comparability. However, this framework should be seen as the
basis for further analysis.
For example, South Africa contributes around 20% of the carbon
intensity of the main emerging market local currency benchmark (more
than double its weight in the index). This may not matter on a one-to-
three-year investment horizon, but over the longer term, the trajectory of
carbon trends in South Africa could have a material impact on its economy
and asset class performance. Hence, we are is aiming to enhance our
understanding of what it takes to make an economy sustainable and
resilient, in the face of such transition risks, by focusing on factors such
as the trend towards renewable energy, economic diversification, and
exposure to stranded assets.
Physical risks are somewhat different – this is the risk of financial
impact from actual climate change, which today is widely believed to be
directly impacted by the increase in carbon in the atmosphere. Moody’s
have highlighted four key risks from physical climate change:
a) the impact of economic activity
b) damage to infrastructure
c) rising social costs
d) population shifts.
Asset returns will be driven by the magnitude and immediacy of these
risks. Given the intrinsic uncertainty around both these elements, this is still
some way from having an impact on assets, but this will inevitably change
in the future.
Influencing behaviour
For those investors seeking to shape the transition to a lower carbon world
For instance, it is an unfortunate irony that many of those countries
most at physical risk from climate change are least responsible for the
increase in greenhouse gas emissions, particularly many African countries.
While there is uncertainty about the magnitude and immediacy of physical
[ 85 ]
 risks, governments can take steps to ensure their economies are resilient may have the scope and willingness to do this directly. But as custodians
and on a sustainable trajectory to manage these risks. Similarly, transition of client money, asset managers are financial sector stakeholders that
risks can be mitigated through prudent and strategic climate policy. are therefore able to engage government officials directly. Indeed it is not
Environmental sustainability extends quite naturally to fiscal prudence, unusual, when it comes to standard macroeconomic matters, for the
economic diversification, and accountable and responsive governance. interaction between policymakers and active investors to involve a mutual
As such, we believe there is a strong link to long-term investment exchange of information and advice. The positive spill-overs from such
return potential. There is scope for institutional investors to incorporate collaborative engagements are known to be considerable, and we see
sustainability biases in their portfolio construction to reward those no reason why this cannot be extended to discussion on carbon and
countries doing the right thing with lower borrowing costs at the margin, climate policy.
while not necessarily at the expense of lower investment returns. A two-way exchange on such issues, if handled with care and with the
The green bond market is another area of opportunity. Poland, an
4
clear intention to do the right thing, will likely also lead to having a more
emerging market economy, was the first to issue a sovereign green bond accurate understanding of carbon exposures. This may reduce some of
in a three-times-oversubscribed issue in December 2016. Elsewhere, the medium-term risks that active investors in those markets confront, as
Chinese companies have been at the forefront of corporate green bond well as allow them to capitalise on the opportunities from the sustainable
issuance. Indeed, in our emerging market corporate strategies, we already transition. Post-Paris Agreement, we believe there is a particularly fertile
own a number of green bonds. The sovereign green bond market is very opportunity to secure a more sustainable future for emerging countries and
much in a nascent stage, but has the potential to expand quickly. As the their investors.
market deepens and becomes more liquid, we expect green bond issues
to enter our investment universe over time. Some investors may wish to
make specific allocations to green sovereign bonds and in time there may
be scope for green bond portfolios, even purely at the sovereign level.
Some investors may even wish to think about incorporating dual-
mandated investment return and carbon progress goals. The industry
and data are not quite ready for this, but in the coming years it could be
conceivable to attribute performance not just against investment goals but
also against climate progress – for instance, with reference to a country’s
progress in achieving its Intended Nationally Determined Contributions.

Next steps: proactive financial sector engagement

with policymakers
A natural next step is to influence policymakers to provide a supportive
policy framework for carbon management. Some institutional investors

4
Green bonds are debt instruments where proceeds are used exclusively to fund qualifying
green investments.

[ 86 ] [ 87 ]
We would like to thank the following for their contribution
to the creation of this edition of The Journal:
 
Alida Campbell
Alistair Blevins
Amp London
Ayo Adigun
Charlie Wilson-Vaughan
Elsa Garey
Emma Evans
Esme Porter
Hellocomputer
Zahra Sachak

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[ 89 ]
 
 How can

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JOURNAL 5 CHAPTER 1
CAPITALISING ON THE LONG TERM

INVESTMENTINSTITUTE JOURNAL 5 CHAPTER 1