“You can’t serve two masters.” Garvin Jabusch, CIO of Green Alpha, on Why Benchmark Tracking is Broken
This year, I’ve been exploring the intersection of indexing and impactful investing in public equities. Can we have our cake and eat it too? I wrote my thoughts here and interviewed Jon Streur, Calvert CEO. After I saw that Garvin Jabusch, CIO of Green Alpha, wrote about a similar topic in this Financial Times piece, I sat down to get his thoughts to share with my Connected Investing readers.
Sonya: Before we jump into the indexing discussion, tell me a little about your career journey, and your impact investing a-ha moment?
Garvin: In the early 2000s, before we founded Green Alpha, Jeremy Deems and I were employed in roles that involved wearing a lot of the hats in sustainable investing. We managed a green equities fund, and were involved in the venture capital for cleantech coming out of Silicon Valley. It was in having that opportunity to vet private opportunities, while simultaneously managing a traditional, negatively-screened public ESG fund, that was designed to track US large caps, that made us say “a-ha”: It’s impossible to run a meaningfully sustainable portfolio that tracks a destructive economy. It’s too big a contradiction. By managing our fund negatively screening the S&P 500, all we were providing was a
slightly greener version of market beta when we wanted to be going after companies addressing the real threats confronting the global economy, like climate disruption. Meanwhile, with our private equity hats on, we were seeing innovations emerge and we thought – let’s combine these approaches. So we set out to manage public equities in a responsible, diversified, institutional-quality way, but with a private equity manager mindset. So, rather than correlating with, or selecting from, a benchmark’s stocks, we established a methodology to invest in companies that A) have solutions that do more to lower the risk profile of the global economy than to raise it, B) are doing so in a meaningful, scalable way, and C) from the fundamentals side, are extremely investment worthy. We look for companies that can grow at scale, that address a largely unmet need, that do so in an innovative way that disrupts its predecessor, and with a business model that rewards its owners. No correlating with the market is required, or even considered.
Sonya: What inspired you to make such a sharp change in philosophy?
Garvin: The time when marginal measures around climate disruption and resource degradation might have worked is over. Transformational change is upon us, in terms of both the dangers of planetary risks confronting us, and in terms of the innovations emerging to confront those. Embracing that confluence is where economic growth can and must occur. I think it is safe to say that if a company isn’t reducing the risk profile of the economy, it won’t have tailwinds for growth in the future.
Sonya: Recently I wrote about index funds, questioning whether they are compatible with Impact Investing. I know you think indexing and impact are incompatible. Tell me about that.
Garvin: The major indexes mostly reflect the legacy economy, which is a fossil fuels-powered, destructive economy that has brought us to the brink of existential risks, especially around climate disruption and resource degradation. If you own the S&P 500 you own approximately 60 fossil fuels and fossil fuels services companies, plus a bunch of fossil-fired utilities, and fossil fuels demand drivers like internal combustion engine makers, as well as other destabilizing businesses. So, though we’re all constantly told major benchmark index investing is passive, it is anything but. If you own the S&P 500, you are making an active bet on system-level collapse.
Not only am I not interested in holding that index, I don’t even want to correlate with it – in fact, if I’m correlating with the S&P 500 it means I must have similar sector and industry allocations, meaning I’ve limited my investment options. We choose to invest in the best ideas with the best prospects, regardless of tracking error, instead of the “business-as-usual” economy. You can’t serve two masters: you can either emphasize correlating with the legacy economy, or you can seek more exposure to growth opportunities around sustainability, productivity gains, and the innovation stack associated with that. At the company level, it is the absolute, not relative, sustainability contribution that matters. So, peer-ranking companies within destructive industries is useless. In my opinion, the fact that so many green funds strive to correlate is a form of cognitive dissonance.
Sonya: Do you benchmark your performance to an index? If so- how do you feel about comparing your work to a model that you believe is broken?
Garvin: We don’t manage our portfolios to an index, but sure, we compare our strategies to an index, for informational purposes, and because the industry requires us to do so. The index we’ve selected is the MSCI ACWI IMI, because it spans all developed and almost all emerging markets, and encompasses something like 99% of equities traded. We view our potential opportunity set as any stock anywhere, so it seems appropriate. But yes, legacy benchmarks are busted, as well as dangerous, because that’s where so
many equity- invested assets reside. We get the economy we invest in and I want a better one. Now, indexing as a methodology can be and is applied to the sustainable economy. We think indexing can work, and be forward looking. What we need today is a modern version of Vanguard Founder Jack Bogle’s idea: democratization of access to investing, but now, that needs to be applied to a de-risked, innovative economy that can help us thrive indefinitely without crashing through more planetary boundaries. And in full disclosure, our own strategy lineup has both passively and actively constructed models. But none of them correlates well with a major market benchmark.
Sonya: How do you think impact investing performance (and impact) should be measured?
Garvin: If the point of benchmarking is truly to have something relevant to measure against, we’ve got to reinvent the benchmarks. Risk should not be defined by greater or lesser volatility compared to the S&P 500. Risk should instead be defined by what’s happening in the world, to the real economy, out on the ground where economics actually happens.
Sonya: Thank you for taking the time to share your thoughts. To wrap up, what’s one thing you are hopeful about and where can my readers learn more?
Garvin: With carbon now at 415 ppm for the first time in millions of years, and global emissions still on the rise in 2018, the environmental picture still looks pretty bleak, right? And yet, innovation is booming right now. Efficiency and productivity are growing, although there is debate about how much and whether it will accelerate, and that means the global economy can, in fact, ultimately provide a good standard of living for everyone without us consuming the earth. The long-term productivity growth rate, over 1% over the last century, and the compounding nature of those gains, almost means that we can’t help but innovate our way into greater sustainability. That’s a happy thought.
This interview has been lightly edited for length and clarity.
You can see more about Green Alpha portfolios and strategies at http://greenalphaadvisors.com/.