Hyperion has from time to time identified climate-related opportunities and specific companies that could benefit from the transition to sustainable energy and transportation. In addition, the companies we hold in our portfolios are generally robust and less sensitive to economic growth rates compared with most listed businesses. Therefore, the companies in our portfolios should be able to handle a low growth, climate disrupted world much better than most listed companies. In a relative sense our portfolio companies will not be as impacted as most listed companies if governments decide in the future to more aggressively tax CO2 emissions.
We expect the rate of growth in the global economy to decline over the coming decade and beyond due to several structural headwinds. One of the most challenging of these is the constraints on our natural resources and the environmental impact of using fossil fuels as our main source of energy. Structural disruption due to renewable energy is likely to be far-reaching, initially impacting resource, utility, transport, and infrastructure sectors. Further, the finite nature of our natural resources makes unbridled consumerism unsustainable. We have structured our portfolio to reflect this and enable our investors to prosper from this disruption through a group of companies that are implementing strong ESG values and/or actively moving the world to a cleaner future.
An example of this is the disruption we see occurring as society and governments look to lower carbon emissions and how this will impact the automotive industry as internal combustion engine vehicles are phased out due to government regulation and consumer preference.
Another example is the structural change occurring in the energy industry as fossil fuel production is reduced/retired and more renewable energy is implemented. Due to the unpredictability of natural resources, renewable energy production can be volatile. Therefore, software and storage need to be utilized to help manage the grid and provide energy during times of high demand.
Hyperion’s portfolio construction process ultimately allows us to manage climate-related risks that are identified by our company research. Hyperion’s proprietary portfolio construction process uses a combination of quantitative and qualitative inputs. The primary quantitative factor is a company’s ten-year internal rate of return (IRR). Ceteris paribus, stocks with a higher ten-year IRR have a higher portfolio weighting. This ‘raw weight’ is adjusted by a proprietary Business Quality Score that is calculated for each stock researched by Hyperion. Within this Business Quality score, various qualitative factors including ESG and climate change risks are evaluated and impact a company’s score and in turn its portfolio weight. It follows, therefore, that a poor ESG and Climate evaluation will result in a lower Business Quality Score and hence reduce the company’s chances of being included in portfolios.
We believe activities that are detrimental to the environment are not to be invested in as it will lead to increased costs or lower returns on capital for that company over time. There will be certain industries where the environmental impacts of a company’s activities are so great that the company is considered non-investable. In these situations, the company will be excluded from Hyperion’s portfolios regardless of other circumstances such as valuation. As a result, our portfolios tend to be underweight resource stocks and zero weight fossil fuel related stocks.
Our view is that poor governance and activities that have a detrimental impact on society or the environment will result in such companies being unattractive investments as the company’s overall sustainable competitive advantage and ability to achieve and implement objectives will be impacted. Our conclusions can result in stocks either being excluded from consideration for Hyperion portfolios or, in less extreme circumstances, being held at below average weights.
Another method of risk management used by Hyperion is engaging with our portfolio companies and expressing our concerns on ESG and Climate-related matters. Additionally, we encourage our portfolio companies to implement better Climate-related reporting and to lower their carbon footprint.
Through our proxy voting, which we do for the majority of our clients, we actively conduct our own research and also use third-party providers such as ISS and Ownership Matters to provide the best outcomes for our clients. If we disagree with a company’s management, we will look to engage with the company and discuss our concerns prior to voting.
Metrics and Targets
Hyperion has long had the goal of ensuring our portfolios have a significantly lower weighted average carbon emission score than their respective benchmarks. Since we started tracking this data in 2010, we have succeeded in this regard, with Hyperion’s portfolios’ carbon emission scores being consistently and significantly lower than their respective benchmarks. Typically, our portfolios are less than 15 percent of their respective benchmark’s carbon intensity. We regularly monitor our portfolio’s carbon intensity and carbon emissions.
As of 30 June 2020, the Hyperion Global Growth Companies Fund, the Hyperion Australian Growth Companies Fund, and the Hyperion Small Growth Companies Fund all had weighted average carbon intensity levels significantly lower than the relevant benchmark.