Time to look at alternatives

Sean Hawkshaw, KBC Asset Management

It's that season when most of us take time out to make plans for the year ahead. We look back at the past twelve months and see how we've done and usually make some resolutions for how we might do better in the coming year. For pension fund trustees this might be a very good time to look at investment strategy and opportunities offered by alternatives.

The very mention of the word alternative tends to make many fund managers break out in a cold sweat as they tend to equate it with risk. But this is far from reality. Alternative investments, particularly in areas such as energy and water, are rapidly becoming the mainstream and instead of increasing risk can actually reduce it.

Take energy for example. A normal pension fund with a standard equity investment strategy will find that oil price rises have a negative impact on its value. Increased energy costs hit the profits of most industry sectors placing a downward pressure on stock prices. However, alternative energy stocks in areas such as wind, solar or bio fuels respond positively to oil price rises.

And the performance of the alternative energy sector is not necessarily dependent on high oil prices continuing. Worldwide energy policy is also driving growth in the sector. The EU has set a target of increasing the share of renewable energy in primary energy from 6% to 12% by 2010. And the share of electricity from renewable sources is targeted to rise to a 21% share of the market by 2012.

In the transport fuels area the EU has set a goal of biofuels achieving a market share of 5.75% by 2010. This will require compound annual growth in the sector of more than 35% in the coming years.

In the US, a range of tax credits to incentivise biofuels producers is already in force while the latest Energy Bill has targeted a near doubling of biofuels production to 7.5 billion gallons by 2012. Biofuels are already big business in the US where ethanol is the primary biofuel with the production of ethanol making up about 3% of the US annual gasoline usage.

Government concerns in relation to security of supply as well as exposure to price spikes mean that the alternative energy sector should continue to offer strong growth prospects for the foreseeable future. And what makes it particularly attractive from the point of view of a pension fund is that it is relatively uncorrelated to the performance of other assets. Global energy demand continues to grow and this will drive the alternative energy sector.

Another relatively uncorrelated alternative investment is water. Indeed, it is now known as “blue gold” among many investors. Finite supplies of fresh water mean that major investment is required in both delivery and distribution systems as well as in recycling facilities and the development of new supply sources. It is currently estimated that the US requires investment of $150 billion in its water infrastructure by 2016 while China's government plans to spend $125 billion by 2010 to build wastewater treatment plants and upgrade water distribution infrastructure. Furthermore, if is forecast that desalination facilities will account for 6% of the world's fresh water supply by 2015, up from 3% today.

Among the more interesting facets of this sector is the fact that many of the companies operating within it are large blue chip European and US concerns with strong track records behind them. This further reduces the risk for investors.

A number of funds concentrating on assets in these sectors are coming to the market at the moment and should be high on the list for discussion by all pension fund trustees. The argument is not that funds should invest massively in these areas but that they should consider taking strategic positions within them. This will reduce overall risk and deliver the potential for higher returns overall.

All in all, a good new year's resolution for pension fund trustees and managers this year would be to take a fresh look at alternatives.

KBC's own alternative energy fund has shown growth of 13.4% in the period from January 1 to end December, 2006. This compared very favourably with the MCSI growth of 5.3% during the same period. Water is already showing strong growth with the KBCAM Eco Water fund delivering 14.8% growth between January 1 end December, 2006.

Sean Hawkshaw B.B.S., M.B.S. is Director - Chief Executive, KBC Asset Management Ltd. He has 21 years' industry experience and 15 years' service with KBCAM. He is currently vice chairman of the Irish Association of Investment Managers. Sean also serves on the board of the Irish Auditing and Accounting Supervisory Authority (IASSA).

The views expressed in this article are the opinion of KBC Asset Management Ltd and should not be construed as investment advice. The prospectuses for these funds are available from KBC Asset Management, Joshua Dawson House, Dawson Street, Dublin 2. Past performance may not be a reliable guide to future performance and the value of investments may fall as well as rise. KBC Asset Management Ltd is authorised by the Financial Regulator under the Investment Intermediaries Act, 1995.
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