The investment theme that saw GMO's climate fund crush its benchmark

Clean energy and other ESG themes are just fads that cost too much and rarely deliver reasonable turns, partly because they’re expensive. Sound familiar? Maybe so, but it’s untrue, says one of Jeremy Grantham’s lieutenants from GMO, Lucas White, in the latest episode of Livewire’s Rules of Investing.

• The transition to renewables
• Is Grantham the real deal?
• Where carbon-neutral assets sit within portfolios
• The diversification advantages.

Back after a brief hiatus and now under the steady hand (and dulcet tones) of my colleague David Thornton, he recently interviewed White, the portfolio manager of the GMO Resources Strategy. (To hear the podcast click the card below, click the link at the foot of this wire.) 

Investment Theme

Like the traditional resources sector? Here's why you're gonna love renewables

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Along with a stellar set of returns - the fund Lucas White heads up, the GMO Climate Strategy has outperformed by between 5% and 6% since the fund launched in 2017.

Compared to the broad equity market, White say clean energy stocks were “slaughtered” in the initial stages of the COVID selloff in February -March 2020.

“It's going to provide diversification to your overall portfolio because it won’t perform like Morgan Stanley ACWI (the All-Countries World Index),” says White, while conceding these returns have been lumpy.”

“I think we went from being up by 2% at the end of January 2020 to being down 10% by the end of March 2020.”

And the fund profited from the “brilliant year” clean energy had in 2020, which was:

• Solar companies up between 200% and 250%
• Wind companies and lithium companies up 100%
• Copper companies up 60% to 70%.

They gave back some of these gains last year, but still ended 2021 well in front.

What makes Jeremy Grantham tick?

Another question White fielded was about the GMO founder's secrets of success. For one thing, he’s not a pretender.

As White explains, some people build their reputations by falling into the “right place at the right time.”

“That’s not Jeremy. He’s in his 80s and will ping you with stats, can do math calculations in his head at mind-numbing speed, and has an ability to see things others don’t,” says White.

Grantham’s “sixth sight” led him to (famously) call the 2001 tech bubble and saw him latch onto climate change as a major investment theme up to 15 years before most other investors.

“It’s less about brute intelligence but more about independence of thought, that’s what sets him apart,” says White.

What’s so hot about renewables?

Why does GMO like the natural resources thematic so much? White points out two core reasons:

1. Diversification relative to the broader equity market
2. Inflation-hedging characteristics.

On wind and solar, some argue their costs are increasing slightly rather than falling year-on-year – “but the comeback to that is ‘look at fossil fuel prices, they’ve gone from $50 to $300 plus in the last couple of years".

“Natural gas prices are through the roof and oil is up $100 to $120, so what clean energy solutions are competing with has become a lot more expensive. If they’ve become a little pricier…that’s not really such bad news, but people get swayed by skewed data points,” White says.

The supply picture

Clean energy materials companies – copper, lithium, nickel – “across the board you see structural deficits in the years to come.”

There’s a distinction between “reserves” and “resources.” The former refers to what’s economical at today’s prices. The latter is how we describe what’s out there, that’s yet to be dug up or pumped out of the ground.

“Copper’s not going back down to $250 or $275 a pound like it was pre-COVID. The use cases for copper reads like a shopping list:

• To electrify countries around the world (particularly developing markets)
• To overhaul power grids
• Build electric vehicles and the associated charging infrastructure
• Install wind and solar projects, which are far more copper intensive than old-world power plants.

Nuclear: “It’s political dynamite”

White also touches on nuclear as part of the fuel mix, highlighting the long way the fuel source has come since the Chernobyl disaster of the 1980s and even the Fukushima crisis of 2011.

He explains how the large-scale behemoths – essentially two large reactors next to each other – one a fallback in case the other shuts (or melts) down – differ from the far more targeted reactors that have been possible for decades. These generate lower nuclear fusion and can be more rapidly cycled up and down, for example, in cases like the flooding that occurred in Fukushima just over 10 years ago.

“There have been safer, more modular, more scalable versions of nuclear for decades. The problem is it's political dynamite,” says White.

A Korean company to buy and hold

As always, the interview closed with a question about which stock White would buy if he knew global financial markets would close the following day and remain shut for the next five years.

His answer? A diversified South Korean company, LG Chem, whose operations span petrochemicals, lithium ion batteries, pharmaceutical and consumer electrical goods.

The firm’s lithium business was spun out as a separately-listed entity, which remains 80% owned by the parent firm.

“But the LG Chem stake alone is worth twice the market cap of LG. And then of course you have to factor their legacy business on top,” White says.

“The company seems like a safe bet no matter what happens in the world for the next five years. You'll probably need lithium-ion batteries for electric vehicles, and the stake in the battery business will probably protect LG Chem’s valuation and grow it substantially more.”

Livewire's Decarbonisation Megatrend Series brings you feature articles that go deep on carbon-neutral investing, alongside special episodes of Buy Hold Sell, a megatrend investing podcast and interactive panel sessions with leading fund managers. You can find all the articles, videos and the podcast on our dedicated Series page.