Zero to Hero: How Australian Ethical gained first-mover advantage in a $30 trillion sector
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The shift towards ethical investing has recently become a much more prevalent concept in financial markets.
Earlier this year, no less an authority than Larry Fink — head of $US7 trillion fund manager Blackrock — flagged a fundamental shift in the reallocation of capital towards sustainable industries.
For some evidence behind that claim, a 2019 report showed socially responsible investments across the globe had climbed by 34 per cent over the previous two years to $30.7 trillion.
But listed small-cap Australian Ethical Investment (ASX:AEF) is one company that isn’t arriving late to this party.
In fact, ever since 1986 the fund has been making investments that meet the criteria set out in its Ethical Charter.
And for a number of years after it listed in 2002, AEF tracked under the radar as it diligently stuck to the mantra in a sector that wasn’t viewed with much urgency by the broader investment community.
But more recently, times have changed. And speaking with Stockhead, AEF chair Steve Gibbs provided some insights into that transition.
“The perception in investment and superannuation circles was that AEF is a little niche player. It’s a nice idea but you can’t really invest in those fields and make money,” he said.
“That was the prevailing view among the majority, and so it took a while to get the traction. But the interesting thing in my view is twofold; one is investment returns are now clearly mainstream — we’re winning awards not just in the ESG space, but against all players. So that’s the first thing.”
“And secondly, particularly in the last 12-18 months or so, people are becoming more and more concerned about where their money is invested. It’s not just about returns. And the beauty of where we are now, is we can say well now you can do both. So that’s really what’s come together.”
AEF’s Charter sets out the guidelines which act as the starting point for where it does — and just as importantly where it doesn’t — invest.
The latter category includes stocks associated with gambling, fossil fuels and the bulk of the mining sector.
Gibbs said the interpretation was flexible enough to change slightly over time. For example, the fund has recently added exposure to lithium given its importance in the construction of storage batteries.
“But we’ve never invested in fossil fuels apart from gas. We did have some investments in gas pipelines and the thinking was that it was a transitional fuel away from coal,” Gibbs said.
“But we took the decision four years ago to get out of gas as well. We came to the conclusion we couldn’t afford a transition any longer — if the planet has a lengthy transition we’ll all be cooking.”
More recently, the fund has increased its focus on healthcare and technology sectors. And the composition of its investment portfolio is heavily weighted towards Australian small caps.
Aside from a couple of external managers for specialist areas, almost all of AEF’s investment decisions are made in-house. And Gibbs said the fund’s long-term adherence to its core values had now provided it with a key competitive advantage.
A tour around the AEF offices reveals smart-lighting technology in conference rooms, a fridge filled with organic snacks and carpet made from recycled fishing wire.
“I think having an ethical investment pedigree has become more of a selling point, so you see people moving in and rebadging to an extent. But this is all we do,” he said.
“Our investment group has been pretty stable for a while now. So we’ve really built up some intellectual property through staff who’ve been assessing these companies and sectors for a long time.”
“We believe our team can separate good opportunities from the bad within the same sector, and they’ve got the experience and pedigree to be able to do that.”
Since being appointed as chairman in 2013, Gibbs has overseen a significant period of growth in AEF’s funds under management (FUM).
In discussing the strong run of momentum in recent years, he highlighted the success of its superannuation fund — first established in 1998 — as a key driver of growth.
“A lot of our growth has come through super, and the good thing is that it’s largely been direct investments,” Gibbs said.
“Over 90 per cent of our members are direct investors, which means people are actively and consciously choosing us. And so we’re one of the fastest growing super funds in the industry for that reason.”
The fund gets a bit of interest from institutional investors, although it doesn’t operate with a large cornerstone backer.
“To the extent instos are on the register, they’re often rotating in and out in accordance with their own portfolio allocation strategy,” Gibbs said.
As at December 31, AEF reported total funds under management of $3.87bn — of which 66 per cent was made up by the super fund. AEF saw a further $112m of inflows in the month of January across their Super and Managed Funds products.
“People now are genuinely concerned with where their money’s invested. And it’s not just young members, there’s a lot of customers aged in their 40s or above. They’ve got reasonably large balances, and they’re also concerned about the climate,” Gibbs explained.
Along with the growth in super, AEF also got admitted to the All Ordinaries index in March last year, which in turn gave the share price a jolt.
That followed a 100-1 share split in December 2018, which reduced the effective share price from around $175 to $1.75.
“Since that time the number of individual shareholders has increased by around 80 per cent,” Gibbs said.
“So that’s really worked in terms of opening the fund up to a broader group of shareholders.”
Add it all up, and AEF investors have enjoyed a significant period of outperformance in recent years.
But those gains certainly didn’t come overnight. Since listing 18 years ago, shares in AEF tracked below $1 all the way until mid-2017. It then returned more than 500 per cent, after hitting an all-time high above $5 in January this year.
“I think it took 28 years to get to $1bn (FUM),” Gibbs says. “The next billion took three years, then two years and then one year. So it’s really just taken off.”
But at the same time, that doesn’t mean ethical investment strategies have only just recently become profitable.
“Our Australian share fund is 30 years old and it’s beaten the benchmark over that time. So it’s not really true that it’s only recently you can make money,” Gibbs says.
“Conversely, not everyone in the ethical space has done that well. I think it just boils down to the strength of our team to pick the right companies.”
And for those who’ve been there from the start, AEF’s journey in ethical investing has proved to be pretty lucrative.
Gibbs highlighted one shareholder who invested $7,000 back in 1986 followed by another small investment, which has resulted in a shareholding that’s now worth $2.8m.
“They always believed in it, and it took a long time. The idea has always worked but it’s now becoming a mainstream concept,” Gibbs says.
Looking ahead, he doesn’t expect that to change much, even as markets enter what could be a period of significant volatility.
“I don’t think there’ll be much difference in how we run it. We’ll continue to find opportunities that meet our criteria — that’s what we’re good at,” Gibbs said.
“Things like [coronavirus] are a challenge, but they’re a challenge to everybody. And depending what happens and how it pans out, we might be better placed than most on the other side of it.”