The decade ahead: Opportunities from building digital and physical infrastructure.

As with any investment, capital is at risk. 

“The past few months have not been a good time to be an optimist,” admitted Malcolm MacColl, deputy manager of The Monks Investment Trust, during a recent investment seminar. Disruption to the global economy from the pandemic, fears of a recession linked with rising inflation, and Russia’s invasion of Ukraine conspired to form a “near perfect storm”, with the market “prioritising certainty and defensiveness over longer-term potential”.

MacColl acknowledged that Monks had underperformed in recent months, and that short-term periods of market uncertainty were “very tough” for clients. He outlined why the trust’s managers were sticking to their reward-seeking strategy.

Despite share price falls, MacColl underlined the continued strong operational performance of stocks in each of Monks’ three growth profiles – compounders, disruptors and capital allocators. He pointed to the growing contribution from Microsoft’s Azure cloud computing services, revenue growth of more than 20 per cent year-on-year at Farfetch – which provides online platforms for luxury goods retailers – and property manager CBRE, which MacColl believes has strong fundamentals.

MacColl characterised the recent market sell-off as a blunt reaction that ignored the value of stronger businesses. He said that those with flexible operations and robust margins – which gave them pricing power – could deal with inflation.

Spotting the winners for the decade ahead

Inflation was also on the mind of Spencer Adair, Monks’ manager. He explained that he and his colleagues were tapping into the experience of retired Baillie Gifford partners, including those who were investors during the 1970s. The trust’s managers also have experience of recent inflation in other markets, including Turkey.

With hindsight, Adair said he should have reallocated capital from rapid growth stocks into compounders and cyclical growth businesses ahead of the fall in stock market valuations. “I’m not sure that would have meant we would have outperformed [our index], but it would have damped down a little bit the magnitude of [valuation falls] we’ve seen,” he added.

The seminar also explored the key themes from the research agenda underpinning Monks’ strategy. While the winners during the past decade were stocks like Amazon and Facebook, which created business-to-consumer ’online destinations’, the winners in the decade ahead are tipped to be business-to-business ’online infrastructure’ companies.

Businesses highlighted under the strategy included communications tool designer Twilio, payments platform Adyen, last-mile logistics firm DoorDash, and ecommerce platform Shopify. Digital disruption over the past decade focused on the advertising, entertainment, and retail sectors. But now disruption is spreading much wider, into sectors as diverse as education, energy, and transport, which account for much larger proportions of the global economy.

While 2020 would be remembered as the year of Covid-19, it also marked the turning point at which it became cheaper to generate electricity from renewable energy than fossil fuels in many parts of the world. Having access to cheap, clean energy could mean the energy transition’s impact on the economy may match that of the internet.

Why Netflix is a ‘climate solutions provider’

The impacts of cheap, clean energy were examined by Caroline Cook, Baillie Gifford’s head of climate, and Kieran Murray, an environmental, social, and governance (ESG) analyst embedded within the Monks Team, during a breakout session entitled “The Future of Energy”.

Cook outlined the firm’s developing thoughts on how to identify climate solution providers (CSPs). “We should care about CSPs because they are fundamentally at the root of the growth we can get in the transition as investors,” she explained.

“We are talking about something that affects the whole economy – it’s not just about a wind turbine or a battery or other narrow, physical elements. We mustn’t make the definition of CSPs too narrow too early because we need to be able to deploy capital across the economy to get the transition going.”

She said the hard science surrounding climate change was driving regulators and consumers to demand change, while technology was enabling the economy to become less carbon intensive. For investors, those drivers create two opportunities: on the supply side, capital expenditure on infrastructure to generate renewable power and adapt to climate change; and, on the demand side, innovations to reduce or avoid carbon use and emissions as carbon prices affect business models.

On the demand side, CSPs could include nudging consumer behaviour towards lower-carbon options. “For us, climate solutions can be as much around a Netflix or an Amazon as a Tesla – the tangible and the intangible working together,” she added.

Murray highlighted the role streaming service Netflix can play in educating and informing consumers about climate change, with examples including the 170 documentaries, dramas, and other programmes within its “Sustainability Collection” and the success of its recent comedy, “Don’t Look Up”, about climate change denial.

He also pointed to lithium miner Albemarle as an example of a supply-side stock within Monks’ portfolio. Lithium is a key component in the batteries used by electric vehicles.

How Global Discovery feeds into Monks

Electric car maker Tesla is just one of the stocks introduced to Monks by the Global Discovery Strategy, which identifies small and mid-cap stocks with the potential to have a global impact. Douglas Brodie, co-manager of the Global Discovery Strategy and one of Monks’ scouts, led the second breakout session, covering innovative small companies.

“We’re instinctively drawn to businesses that have very dynamic routes to evolve,” Brodie explained. “We need to dream a little, be creative, ask where this business could get to? We love it when we find a business that almost sounds outlandish.”

The strategy looks for businesses that can deliver a step-change by bringing together technologies, teams or business models. Brodie pointed to examples including Novocure, which is using electric fields to disrupt cancer cells in brain tumours, and Illumina, which makes technology to analyse gene functions and variations.

“Global Discovery isn’t about us going to the edge of the Earth to find the tiny, undiscovered idea – it’s about us finding small businesses that have global relevance,” Brodie added. “That’s the cheat sheet for blue-sky investing.”

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This communication was produced and approved in July 2022 and has not been updated subsequently. It represents views held at the time of writing and may not reflect current thinking.

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