In today’s world it can be hard to distinguish between illusion and genuine opportunity.
Children of the 1970s were offered a future with mining colonies on the moon, ubiquitous hovercraft and free energy from nuclear fusion. At that point, nobody mentioned indispensable (read: addictive), hand-held devices that have 100,000 times the processing power of the computers used to run the Apollo missions.
We all tend to find ourselves caught up in the received wisdom of the time, wisdom that is usually based on two expectations. The first is the comforting notion that the future will likely resemble the past. The second is that the most eye-catching technology and headline-grabbing preoccupations of the present will inevitably dominate how we live in the future.
All change
Today we live in a period of global transition. The future is arguably much less likely to resemble the past, the knock-on effect of which is that old certainties of investment may no longer apply. The pandemic and the more recent unwinding of seemingly never-ending supportive monetary policies have effectively ripped up the economic rule book. What comes next is not expected to be a return to the ‘normality’ that we became accustomed to in the decades that followed the Global Financial Crisis of 2008.
Instead, we are entering a new regime in which inflation is likely to be higher and interest rates more volatile. The effects of climate change may become increasingly central to our lives, together with ramifications of ageing populations, the productivity challenges posed by a shrinking global workforce and geopolitical divisions that could lead to conflict. Meanwhile the rate of technological progress is accelerating, widening the range of potential ‘futures’ and making it more likely that disruptive forces have a major impact.
While we anticipate positive asset returns, they may be somewhat lower than investors predict, and with higher volatility. In our view, this environment should favour an active, forward-looking investment stance. It should also benefit a more traditional approach to asset allocation that focuses on maximising diversification and targeting risk-adjusted over absolute returns, and carefully considers structural and tactical portfolio tilts.
Deus ex machina or just BAU?
This is a complex investment landscape in which the ability to look deeper and distinguish real from perceived value is paramount. One such area where there is a real and present need to look deeper is the remarkable performance of technology companies associated with artificial intelligence (AI).
The valuations of these companies suggest a long, steep runway of growth, but the truth is that investors and AI users alike are still at the early stage of figuring out what AI can actually do for them. There are and will continue to be companies that do very well indeed from AI, and we aim to participate in their success. These include providers of cloud services, makers of semiconductors and networking hardware, and owners of large, useful datasets. But there is a distinct possibility that, for many, AI will not be their saviour. Rather, it could become an additional cost of doing business and keeping up with the Joneses – a cost that many companies may struggle to pass on to their customers.
While new technology can tip the balance in favour of a company, sustaining that advantage is a different matter. In the end, there is no free lunch. What really matters in the long run are more traditional considerations, such as market structure, barriers to entry, competitiveness, unique competencies, strategies and the quality of a company’s management.
Fixing food
Living in an increasingly tech-dependent society it is easy to lose sight of the fact that we are still at the mercy of more elemental forces – such as food supplies and the weather, both of which are undergoing significant transitions.
Many people hope that the high food prices caused by the pandemic’s dislocation of supply chains and the war in Ukraine will somehow ‘return to normal’. Yet our research indicates that elevated levels of inflation will be an enduring feature of the global food system. This is partly because of today’s more divided and fractious world, together with higher labour costs. More fundamentally, the heat stress, flooding and higher sea temperatures that accompany climate change will pose increasing risks to the food system.
The production and consumption of food is complex, touching many different aspects of the natural environment and human society. Finding solutions that address supply pressures, changes in consumer preferences and the challenges of climate change opens up a wide range of investment sub-themes that we expect to continue for many years to come.
Net zero’s silver lining
A further area where we believe that markets are severely underestimating the investment potential is climate change. In our view, the shift to lower carbon economies could result in the largest wave of capital investment yet seen in human history.
How we source and use energy must clearly change, but we must also invest significant capital in all areas of the global economy, from clean transport to sustainable buildings, agriculture, materials and digital technology.
According to the Intergovernmental Panel on Climate Change and other estimates, we must increase annual climate-related spending by several orders of magnitude if we are to keep global warming to below 2°C. While projections vary, it is estimated that we will need to reach annual climate spending of $6 trillion by 2040, and to continue to invest at this level[1].
Things may not be quite what they seem
Today’s investment environment makes it difficult to distinguish between real opportunities and mirages that dominate the horizon. Viewing the world through a thematic lens helps correct this, enabling us to see connections, risks and opportunities that may not be apparent when focusing on specific sectors or geographical regions.
At the same time, we are conscious of the need for flexibility in order to capitalise on emerging opportunities and respond to deviations from long-term trends. Having a diverse roster of investment themes at our disposal gives us this scope, and has served us well since launching our first thematic portfolio back in 1994.
2023 was a year of market curve balls. 2024 may have more in store, such as the possibility of a second Trump presidency, which could have implications for individual portfolio holdings and even for global asset allocation decisions.
[1] Global Landscape of Climate Finance, 2021, & IPCC
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