Environmental, social and governance (ESG) investing has been one of the fastest-growing parts of the industry, with fund groups launching new strategies or tweaking existing ones in an attempt to attract the hot money flowing into the sector.
By making such radical changes, many fund managers are likely to have been forced to divest from companies they previously had no problem holding – yet most were strangely quiet when Trustnet asked them for concrete examples.
However, a handful of fund managers did get back to us: this is what they said.
Peter Michaelis
Peter Michaelis, who runs the £2bn Liontrust Sustainable Future Global Growth fund, says that because investing involves making predictions about the future, you will inevitably get some decisions wrong. This doesn’t just apply to performance, when businesses you thought were solid suddenly plummet like a stone, but ESG criteria as well, when holdings become embroiled in a controversy that challenges your initial assessment.
One example was Facebook, now Meta, which in 2017 became involved in numerous controversies related to content moderation, political interference and misappropriation of personal data.
Michaelis said Facebook’s response suggested it was in denial about the scale of its problems, and Liontrust downgraded the fund to an uninvestable level in early 2018.
“We consequently sold our position in the company as we believed it was inadequately managing its impact on the wider society, creating a risk to its future prospects,” he explained.
“Incidentally, Facebook’s cost base more than doubled from $20bn in 2017 to $47bn, partly, we believe, as a result of the increased investment required in content moderation. This resulted in operating margins falling from 50% in 2017 to 34% in 2019.”
Simon Edelsten
It is not just stocks that managers have sold out of for ESG reasons – sometimes they divest from entire countries.
Simon Edelsten, manager of the Mid Wynd International Investment Trust, has had as much as 10% of his portfolio in Chinese shares in the past. However, he sold out of all but one position last year when he concluded every business model in the country was, to some extent, dependent on the whims of the Chinese Communist Party.
“It’s not the first time we’ve responded in that way,” he said.
“We invested in Beijing Airport a few years ago. This was so successful that the government built another airport on the other side of the city and started ordering the major airlines to switch from Beijing Airport to its new one. We took flight ourselves at that point.”
After the cancellation of the Ant Financial IPO in November 2020, the subsequent disappearance of founder Jack Ma, and ensuing regulatory action against many of China’s internet success stories, Edelsten said he felt shareholder rights were under attack again.
The bulk of his exposure in China was to e-commerce site Alibaba, multi-media conglomerate Tencent, and JD.com, which he described as ‘another Amazon-like company’. He sold all of them.
“You could call this political risk, but for us it fits within the G – governance – of ESG,” he added.
“Does a company have control over its destiny and is it transparent who is pulling the strings within that company?”
Richard de Lisle
Richard de Lisle, manager of the VT De Lisle America fund, bought oil-well completion company FTS International in 2020 when it emerged from bankruptcy.
“It was late 2020, I was looking for an energy play and FTS had just re-entered public markets a week previously,” he said.
“No analysts, no one to recommend it, fuming bond holders dumping their stubs: opportunity beckoned.”
He added: “When a company emerges [from bankruptcy], the devil is in the detail. The previous stock and bond holders will have effectively been wiped out, but what they have been given in the new structure is important. For me, I tend to look for one thing above all in the various filings with the SEC: the strike price of the warrants.”
When a stock that has previously been declared bankrupt through a Chapter 11 process re-lists, previous shareholders are often offered out-of-the-money warrants at several different strike prices. De Lisle said these prices represent a realistic expectation of their potential future value.
As a result, when strike prices for FTS were in the mid to high $30s, the manager said he was happy to buy in at $18.
Yet when de Lisle became aware of the Biden administration’s aversion towards fracking, which FTS engages in, he thought he may have fallen behind the ESG curve. He sold out of the company at $19 in 2021, but later realised his mistake.
“Today FTS International is being taken over at $26.3 by ProFrac Holdings,” he continued.
“It is an excellent example of the speech Larry Fink [chief executive of BlackRock] gave in the United Arab Emirates. He said that the reticence of investors to buy ethically troubling stocks in public markets had just given a wonderful opportunity to private equity to snaffle them up cheaply, which indeed we continue to witness.”