Rathbones Group Plc (RAT) Earnings Call Transcript & Summary

Welcome, everyone. My name is Ian Dembinski from Rathbones, and it's my pleasure to be hosting today's 30-minute first quarter investment insights program. I'm joined by 3 of our brightest and best. And they are Oliver Jones, who is Head of Asset Allocation, in which he is responsible for our research on the global economy; Sanjiv Tumkur, who is Head of Equities and responsible for our research on stocks; and Kate Elliot, who is Head of our Ethical, Sustainable and Impact Research teams for Greenbank. If you want to know more about my colleagues, their CVs are on the webinar page. Wow, what an eventful first quarter we just had. Global stock markets recorded their best first quarter performance in 5 years with the MSCI index of worldwide stocks gaining 7.7% and stocks outperforming bonds by the biggest margin in any quarter since 2020, as traders scaled back their expectations for rapid interest rate cuts. NVIDIA alone added more than $1 trillion in market value during the first 3 months of the year. Equivalent to what, about 1/5 of the total gain for global stock markets over that period. However, last weekend, elevation of hostilities between Iran and Israel could have an impact on markets. Thus far, the impact has been muted. But we will be covering how this scenario may play out in the next few weeks. So I'll be asking Oliver to elaborate on the possible market impact of the rise in Middle Eastern tensions and to recap on what has been driving performance in the first quarter. I'll then be taking you away from review of markets and inviting Sanjiv to take a fresh look at how we integrate responsible investment into our core portfolio management approach. And last but not least, I will turn to Kate and invited her to comment on how Green Bank, our ESG specialist investment team, actually incorporates sustainable investment into clients' portfolios. Never fear, if you don't know what ESG stands for, we will be explaining that in a minute. So before we begin, please do write in your questions in the chat function, and I will pick these up as we go along. We're also very interested in your views on whether you like this format and approach, so please do also write some feedback so that we can continue to improve how we communicate with our community. You can also preregister for the next webinar on the engagement panel on the left-hand side of the screen.

So turning to Oliver first. Let's look at last weekend's events with Iran's attack on Israel. What happened to markets on that? And can you give us a bit of a recap of the situation?

Absolutely. Thank you, Ian. So a couple of key points I'd make on that. First of all is just to acknowledge the seriousness of what's happened. We saw, of course, Iran strike Israel directly for the first time rather than via any of its proxy. So what happened over the weekend was in that sense, unprecedented. In our previous work on geopolitics, we flagged an escalation of this situation to a broader direct conflict between Iran and Israel as one of the most serious geopolitical threats facing the global economy and global markets. But the second point I wanted to make, and it's a really important one, is we shouldn't jump to conclusions. We need to be careful about knee-jerk reactions, overreactions. What makes me say that? Well, looking back at the events of the weekend in particular, Iran strike looked like a calculated show of force, not something designed to cause maximum damage or maximum provocation. A few different aspects of it make us think that. So thinking about the fact that Iran provided warning of its strike in advance. It targeted military rather than civilian targets. And then we now see in Israel, there's pressure for a response. But Israel's allies, especially the U.S., which, of course, is so important to Israel security, putting heavy pressure on to avoid an escalation. And even on the other side, Iran's allies, Russia and China, that it sells so much oil to again cooling for both parties to avoid escalation. So this is something that's a serious risk. It's something we're monitoring very carefully, but we also need to be careful of the knee-jerk reaction, the overreaction.

Okay. So let's just widen it out a little bit because it's not just about Iran and Israel. You've been doing a lot of work on geopolitical risks in general. How could that impact markets?

Yes, absolutely. So people tuning into this webinar might have heard the one we did last autumn, where we talked through in quite a bit of detail about geopolitical risk report. As you mentioned, we looked at the prospect of a broader conflict between Iran and Israel and 3 other major risks. Really, the key message from that, the thing that I would emphasize is, it's very, very difficult to predict geopolitical risks. But that doesn't mean we should put our heads in the sand and say there's nothing we can do because there's so much that we can do, both to monitor and prepare for these things. And that's what the report does. I believe it's on the webinar platform. So anyone who's interested can click in and read about it. But we analyzed each of these shocks, what's different about them, how would they affect global growth, global inflation and then the effects of that both for asset classes, for sectors to give us a playbook ready to use should the worst-case scenario be realized. Also, we do a lot of work with geopolitical experts at BCA. They help us on the monitoring side of things, so we're ready to react as quickly as possible.

Now in my intro, I refer to the fact that being a very considerable market rally. Could you just explain a little bit more detail why that's happened and what you can see going forward from that?

Yes. So you mentioned at the start, markets had a fantastic first quarter. And actually, that's something that began in late October last year. And what's happened recently has been really quite different to the pattern of performance last year. Last year was all about the Magnificent Seven, the U.S. tech giants. This year, the strength in equity markets has been broader. We've seen global equities do quite well. We've seen smaller stocks do quite well as well. And I think the fundamental reason for that is just this improvement we've seen in the performance of the global economy. So take a step back, 2022, 2023, the effects of the Ukraine war were rippling through the global economy. That caused -- we've had a mild recession last year in the U.K., 15 other advanced economies have the same. But right at the end of the year or the what we call leading indicators, things like trade data, high up global supply chains, surveys of firms, new orders, they started to pick up really broadly, and that's continued into the new year. And that's what's driven that strong performance from markets that you mentioned.

Sanjiv, just bring you in on that. We had the Magnificent Seven, we talked about last time. But not all 7 have marched forwards in unison. Could you just explain what's happened?

Yes, sure. So they have diverged absolutely, whereas last year, they all performed very strongly. So in the first quarter, for example, we saw the likes of NVIDIA, as you said, and Meta and Amazon do quite well. But on the converse, we saw Tesla for 29%. And it's actually dropped out of the top 7 stocks being replaced by Berkshire Hathaway, which is about as old economies you can get.

So we've also been changing all of our thinking and positioning in response to the changing economic outlook. Could you expand on that?

Yes. So I think the clearest way to think about this is to actually take people back to 2022. Just after Russia invaded Ukraine, we moved our positioning to quite a defensive, quite a cautious stance, reflecting those risks to the global economy. But we also set out essentially a road map, things we wanted to see to change that stance. And we've been taking off things along that road map. So the first was the end of the U.S. Central Bank, the Federal Reserve cycle of interest rate increases that happened around the middle of last year. And the second was really a broad and sustained pickup in the leading economic data. That's why I mentioned earlier, that's something we always monitor really closely. That gave us a bit more confidence in the sustainability essentially of the rally. Of course, there are still significant risks to the outlook, not least the ones we mentioned at the start and also in the U.S., just that last mile of inflation falling back to target has been slower than expected. That's another key risk. But overall, it's still true to say the balance of risk has improved. So it made sense to move away from our ultra cautious positioning previously.

A very short answer to this, please. Are you positive on stocks going forward?

We are fairly positive. We particularly added to Europe and to smaller stocks where we see a lot of value. I'll keep it very brief.

That was very brief. Very good. Now Sanjiv, turning to you. Could you remind us how the main Rathbones Investment Management business really approaches responsible investment?

Absolutely. So we as a business are committed to responsible investment. And for us, there are 4 key pillars to that. So first is what we call ESG integration. Second is voting with purpose. The third is engagement with consequences, and the fourth is transparency. So taking them in turn. The first one, ESG integration. What is ESG? It stands for environmental, social and governance factors.

Well done for explaining that.

So what we do is integrate thinking really deeply about environmental, social and governance factors and how they could present a financially material risks, but also opportunities to any company that we analyze as a potential investment. So that's embedded in everything we do. We don't think it's a nice to do. We think it's essential because to avoid that sort of analysis is to miss a whole dimension of risk and opportunity, which would be foolish to do whatever one's personal thoughts responsible investment are. So it just makes good business sense. The second part is voting with purpose. So we routinely vote on our clients' shareholdings in order to drive the management of those companies to act in order to drive positive change. And we're not afraid of voting against management teams if we feel that they're not doing the right thing for the longer-term performance of the business. The third element is engagement with consequences. So this is kind of an ongoing year-round dialogue with our investee companies, trying to underhand why the management is doing what they're doing and trying to tilt them in the right direction and explain to them why we think certain priority areas are important. Now we do that by ourselves and also in conjunction with other concerned investors who feel the same way that we do. And then the last element is transparency. And with transparency, we simply undertake to be transparent with our clients and with our wider stakeholders about what our key engagement and responsible investment priority areas are, what our goals are and how much progress we're making against those.

Could you expand a little bit on ESG integration? Because I'm not sure I actually know what that means.

So yes, absolutely. So it's -- I'll give you some examples. But in essence, as I say, it's integrated consideration of ESG factors into our day-to-day analysis of businesses. So what risks do they face for environmental and social for example? What opportunities are presented? How are they mitigating the risks? How are they taking advantage of the opportunities? And we can sort of assess the attractiveness or otherwise of a company based on ESG by looking at those different principles. And we're thinking mainly with the financial materiality lens rather than any kind of value judgments. So taking an example on the environmental side, does the company have a significant carbon footprint? If it does, it needs to be doing everything it can to mitigate that carbon footprint in a cost-effective way, similarly with impact on water tables or impact on plastic pollution. Because if a company doesn't take its environmental liabilities seriously and manage them appropriately, it can open itself up to regulatory fines, additional future costs and reputational damage as well. On the social side, we're focusing on how companies treat their employees. Are they treating them fairly? Are they paying them appropriately? How are they treating the wider community? Because again, if they're impacting negatively on local communities, that can lead to increased costs, significant disruption to production and again, these negative reputational issues, should really damage a brand. And then on the governance side, we're looking for how is the company's Board structured? Is it giving effective oversight for the management team to ensure that the management team are running the business in the right way for shareholders and for the wider society. Our management incentivized in the right way. Our employees trained to make sure they don't fall into areas where they could be liable to bribery and corruption charges, which could really resound badly on the business. So those are some of the areas we think about.

And this is a question for you and Kate. Are there areas of investment that you would exclude?

Yes. So we -- as the wider business, we tend not to exclude too many areas because we recognize our clients have different views about different areas. So typical areas where we can and very frequently do exclude taxes for particular clients with particular preferences are, for example, tobacco or gambling, alcohol, armaments and sometimes fossil fuels. But as a business as a whole, we don't make group-wide exclusions apart from a handful of areas, which are in our view incontrovertibly negative. So those would be the production of cluster munitions or anti-personnel land mines and also businesses which are significantly exposed to thermal coal. Because to our minds, thermal coal is incontrovertibly more polluting than...

CO2 producing. Kate, would you like to add something to that?

Yes. I mean in addition to those kind of activity-based exclusions that Sanjiv was talking about in the wider Rathbones business, Greenbank can also accommodate more complex client-led, ethical and sustainable preferences into portfolios. So an example there might be kind of qualitative assessment of company's exposure to human rights breaches. But I do think the important thing to remember across both responsible investing and sustainable investing is that it doesn't necessarily have to result in a narrowed down investment universe. It's simply that with both of those approaches, the factors and the decisions that we're making when we're filtering down potentially tens of thousands of potential companies into what we think are the best picks for a client portfolio, those decisions and factors will differ between the different approaches.

So it just occurs to me, Kate. Does that mean that you have to give up performance in order to be adhering to sustainable investment?

There's been numerous academic studies on this. And I think in our experiences that certainly, over the longer term, there should not be a financial detriment or hit to adopting responsible or sustainable investing principles. And indeed, as Sanjiv said, many of these factors are just simply good investment considerations to make. It's about identifying well-run organizations that are in it for the long term.

So Sanjiv has given an overview of how ESG integrates into the Rathbone's investment management process. And within Greenbank, you're responsible for sustainable investment. Where does that differ? Or is that similar to what Sanjiv's been saying?

Within Greenbank, we use a set of 8 sustainable development themes that guide our investment approach. Those cover major social and environmental challenges that the world is facing. They help us to identify sustainability-related risks and opportunities for companies and also help us find those companies that we think actually could accelerate progress to a more sustainable world. And if you look underneath the bonnet of those, there's a huge amount of similarity with what we'd be looking at with ESG integration. So you look at our decent work theme that's covering issues of employee safety, of fair wages, training and development. But perhaps whether 2 approaches might differ. Firstly, there's this concept called double materiality, throw another bit of jargon in the mix there.

That is a mouthful.

And then with -- so with ESG integration, you're principally focused on how those ESG factors impact on the company and impact on its financials with sustainable investing, you're interested in that, of course, but we're also considering that outward-looking impact. So how are these companies impacting on the wider world around them. I think the other area of difference between the 2 is perhaps on time horizons. So ESG integration will place greater weight on shorter-term financially material factors, where sustainable investing may take a longer-term view or it may take into consideration factors where that argument for financial materiality is not quite as clear cut.

So in 2024, over half the world's population is going to go to the polls to vote. What impact could that have on sustainability issues?

Yes. I think it's fair to say that the short-term kind of financial materiality of a lot of the sustainability trends is still highly dependent on policy drivers. So where we see kind of political change, where we see elections. That can impact kind of if and how these regulatory carrots and sticks are implemented. And we're seeing that in action already. So for example, in the EU, there's a landmark that of legislation that's been passing through the kind of parliament of the council there called the EU nature restoration law. And that has seen some watering down of the wording within it. But importantly, it has still passed the European Parliament. And that's seen the adoption across the EU of our commitments to restore 20% of land and sea areas by 2030. And ultimately, kind of we see the political change. It can create an awful lot of short-term noise, but those long-term fundamentals and the sustainability drivers underpinning them often remain unchanged.

Oliver, do you want to add anything in terms of elections impacting on markets? What's your thoughts?

Yes, absolutely. I think I would echo a point that Kate made really, which is elections can create a lot of short-term noise, but they're sometimes overrated as the fundamental driver of markets. And I think the U.K. this year is a good example of that. In fact, we're not being offered radically different economic visions from one party to the other. It's a different situation to 2019, when arguably, we were. The choice is actually quite narrow between the 2 parties in the U.K. So we are thinking about the election. And in the U.S., there are some slightly more consequential economic issues up for debate, particularly some of the environmental subsidies, things that Kate mentioned. But as part of a bigger picture that backdrop for the global economy that I talked about earlier on.

Now we need to leave room for questions from our viewers. So I'm going to go to that now. And firstly, Kate, a question for you. Why is G grouped together with E&S? G seems potentially applicable universally and is potentially a far greater importance than E and S. What would you say to that?

I think it's interesting, and actually quite a live debate at the moment as to whether we ought to be putting these into different silos because you consider a lot of them, and they're highly intertwined. So you look at kind of governance. And I mean, we take a social issue, so we could take something like human rights risks. Ultimately, that will relate back to governance because we're wanting to understand how the Board is thinking about those issues. Is it even aware of this as a potential kind of material risk or opportunity. But I would say, fundamentally, across all of these, they are good business practice. They are things that investors, no matter what their value considerations, should be building into their assessment of companies, whether that be tagged as an E and S or G.

Okay. And there's another question here about inflation. You appear not to be too concerned about U.S. inflation. Is my interpretation correct? And you're not worried that inflation is hard to shake off as concerns its impact on consumer perceptions and voting intentions. In other words, are we being a bit too sanguine about inflation?

I think there's a question of degree here compared to the debates that we've been having over the past couple of years. So inflation across advanced economies was in double digits and it's come down to low single digits. And it's true that the U.S. is having a problem getting from roughly 3 and bit percent inflation to 2% inflation, where it would like to be. That's not great, but it's a smaller magnitude of problem than getting from 10% to 3%, if that makes sense. Also, we've done a few things just to reflect the balance of risks in the U.S. being perhaps slightly worse on the inflation side than in Europe, so we're reflecting that in our fixed income allocation, for example. So preferring U.K. and European to U.S. fixed income with those risks in mind.

But could interest rate cutting diverge between the economies? Because the U.K., for example, has got a slowing economy. The U.S. has got a roaring economy. Europe somewhere in the middle. Could we actually, for the first time in a long time, see a divergence of interest rate treatment?

I think it's definitely possible that we see the Bank of England and the U.K., the European Central Bank moved before the U.S. Central Bank, the Federal Reserve. Perhaps in the middle of the year is a reasonable time when on this side of the Atlantic, we might start to see interest rates fall. I think it will be later than that in the U.S. And so yes, we may see a small divergence. And that goes back to what I said about what we're doing on the fixed income side to try and reflect that balanced risks.

We talked about how technology has really been driving the U.S. market. The U.K. market doesn't seem to have so many tech stocks in it. Does that mean that we should be negative about the U.K. market?

No, I don't think so. I think there's a lot of things to like about the U.K. market in terms of valuation. Sterling looking undervalued as well. So you get a double whammy there. And actually, a lot of U.K. businesses are global businesses, so they benefit from the strength in the U.S. economy anyway. The U.K. does have quite a vibrant tech sector. We've engendered some really strong global technology businesses, be they Arm holdings from Cambridge on the semiconductor side and deep mined on the artificial intelligence side. Those businesses both happen to have been bought by bigger global companies, but they still have significant businesses in the U.K., and there's a huge ecosystem of tech incubators, fintechs, all sorts of things all around the U.K. So there's a lot of technology going on. But maybe just a little bit beneath the radar and thinking more widely about technology and the kinds of companies that will benefit from some of the technology innovations that we've seen like generative AI. We've got some really interesting data and information businesses in the U.K. So I'd call out 2 in particular, Experian, which started off as a credit bureau. And RELEX, the [ retail sphere ], which academic journals, risk monitoring, legal information. What they've got is really strong databases of information and data stretching back decades, in some cases, a lot more than decades. And that proprietary data is really valuable in an era when you can use AI and algorithms to really maximize the value of that data. So what they're doing is taking AI and software and creating solutions, information-based solutions for their customers that really dramatically transform their daily workflow, automate workflow, save time, save money and they transform in some sorts of ways to be software businesses.

Just important to note when you're thinking about the technology sector, as well as Sanjiv was mentioning, just the potential benefits across the economy as a whole. So you look at AI and you look at how that could be implemented across kind of multiple industries that you wouldn't really think of as tech stocks. So in the pharmaceutical sector, for instance, you've got companies and again, they benefit from having that huge data repository that they've built up over the years of operation. So they can use AI models to help accelerate new drug discovery, to help manage clinical trials more effectively to both benefit them as businesses, but also deliver those important products that help with social outcomes for the population at large.

Now Kate, may [indiscernible]. I didn't explain what Greenbank is. And we've got a question here. It's a very good question, who and what is Greenbank?

So we are the sustainable investing specialist within Rathbones, and we've been in operation for well over 20 years now. And the team are really experts in looking at kind of sustainable factors, integrating them into client portfolios. Each of the portfolios we manage in common with the Rathbones -- kind of wider Rathbones Group, it's bespoke to the clients' needs. So we're accommodating everything that you would expect from a conventional portfolio on risk and return objectives, but also integrating sustainability preferences at the core considerations into those portfolios we manage.

You're ready for a punchy question. Do you think it's still appropriate to concentrate on ESG when major players in the USA have given it the thumbs down? And as a classification, it's ill-defined, vague and open to distortion? A nice one for you.

I think this comes into play with it's kind of semantics versus the reality of it. And yes, there are huge problems with some of the historical definitions around ESG, and often ones that are highly data led that are not really thinking seriously about integrating this into the analysis of the companies or indeed considering what these ESG factors actually mean in practice and understanding them in depth. I think we've had a point, hopefully, across much of what we've been saying today that fundamentally, these are important factors for the organizations. I can think of an example off the top of my head of a mining company that we're seeing community opposition because it was running its trucks up and down through this village past one of its mining operations. Now it could have taken a kind of sensible approach to social engagement with that, engage with the community put in place mitigation measures. But it didn't. It lost its social license to operate. The regional government took away that license. It lost huge amounts of money from having to shut that mine down. So that's an example of something that on face value, it's a social issue. But fundamentally, it affects our company's future financial performance.

Now we've got so many great questions, our producers allowed us to tack on an extra 5 minutes, which is great. So Oliver, turning on to you. Do you see the difference in the American market between a Trump and a Biden victory?

Yes, it goes a bit back to what we were discussing earlier, how big are the policy differences between those 2 candidates. I think I'd focus first on some of the similarities, actually. Neither of them really has a plan to rein in fiscal policy to contract the deficit, so both favoring loose fiscal policy. Another issue is China. We associate Trump with starting the trade war with China. But don't forget that Biden not only carried it on, but turned it into an investment war, made it even broader. Both parties favor tougher antitrust enforcement to some extent as well. So a few key issues that they actually agree on. I think a big difference is what is misleadingly named Biden's Inflation Reduction Act. The attitude towards green energy subsidies is perhaps a bit different between the 2 candidates. So that's a key area to watch for as well. And of course, we know there are geopolitical differences. The Democrats stronger in support of Ukraine, perhaps the Republicans stronger in support of Israel, but it's extremely difficult to predict exactly what effect that will have on those very complex situations.

Okay. And Sanjiv, turning to you. We've seen obviously a strong first quarter. But isn't there the risk of earnings disappointments for the remainder of 2024, especially in the U.S. because we've had quite large rallied. Does that leave not much room for disappointment?

I think that's a fair comment. There isn't a huge amount of room for disappointment, particularly in some of the technology stocks, which have seen such a dramatic performance over the last 15 months or so. But having said that, if we're right and the U.S. economy is going to come through this kind of period of lower growth, pretty unscathed with renewable employment levels, then actually, the drivers of earnings being disappointing are perhaps going to get easier and easier. So we're alive to the issues. I think looking back 6 months ago, earnings expectations were particularly high. They have slightly been reined in. So we've seen some adjustments already. But it's something we're watching.

Oliver, do you want to add something to that?

Yes. Can I just add to that, we touched on it very briefly earlier, but when we've thinking about which areas to add to in equity markets, we've been looking at areas where we think the bar is set relatively low. So that's why we've been thinking about Europe, and we've been thinking about smaller stocks. Because as Sanjiv said, for some of the biggest U.S. tech names, for example, that's where the expectations are particularly elevated.

Okay. Kate, there's so many great questions. I wish we had an hour for this. But do you engage in the modern slavery agenda? And if so, how?

Absolutely. So it's been a kind of principal area of engagement for the Rathbones Group as a whole for a number of years. So we're involved in helping to establish some of the legislation in the U.K. that is requiring companies to report on the efforts and understanding of modern slavery risks within their supply chain. And that work is continuing today. So we are placing scrutiny on companies that they are abiding by those legal requirements to report on efforts but we're also having quite detailed dialogue with them to understand not just that they are kind of reporting to the world what they're doing. But they are taking steps to identify and eradicate modern slavery because it's sadly something that is still hugely prevalent in the world today.

And bringing things back more home to the U.K., Oliver. Do you see a difference in a Starmer versus Signac victory in the U.K.?

In the U.K., it's quite remarkable how similar the parties, 2 proposals are with the labor party such a long way ahead in the polls, I think their priority has been present a smaller target to the conservatives to attack as possible. And that's meant actually following an awful lot of the tenants of existing economic policy. There are some differences. So workers' rights is one, perhaps on relations with the EU, the labor party favors a closer relationship. But a really crucial thing is that the fiscal rules proposed by the labor party are basically identical to the ones that exist now. And that really limits the scope to make dramatic policy changes. And in fact, we've seen labor rein in some of their more radical proposals to meet those fiscal rules so far.

And how do you see the geopolitical landscape evolving going further forward because you can have on a spreadsheet or the macro arguments for how markets move. But the geopolitical risks are just almost impossible for us to calculate, are they?

I think a key line from that geopolitical report that we put out last year was you can't predict, but you can prepare. And I think that just applies so much to these risks. In doing that, I looked at all this academic evidence that geopolitical experts, track records, spoiler, they're terrible. No one knows. So what is actually helpful for us to do is have plans ready for when things do happen and just to monitor very closely, so we're ready to react as quickly as possible. That's better than trying to make potentially erroneous predictions about what's going to happen a year from now in a political context that not only we, but also probably the world's intelligent services don't have a complete understanding of.

Okay. And Kate, just final question to you. It has to be brief. Does the marketplace have a common understanding of ESG amongst our friendly competitors? I mean do we work with them? Do we help to define it together?

It's definitely building, that consensus. And we're seeing regulation and standard setting help with that. So at an international level, we have organizations like the ISSB, The International Sustainable Standards Board, that is setting guidance on how companies should be reporting on these factors. Within the U.K., we've got the FCA's guidance on sustainable disclosure regime. So that's all helping to build that consensus and to build the quality of the information that we get from companies and ultimately, we can provide on to our clients.

Excellent. Such great questions, so little time. Sadly, we've run out of time, so we can't take any more of the questions. As I said before, do register on our next webinar on the 2nd of July and leave any comments on any areas of improvement for these sessions and the content that we cover. We would love to hear from you and just wishing you a great afternoon. Thank you very much.