Saving for a sustainable future

A core part of our Sustainable Future investment process at Liontrust is identifying areas of structural growth and investing in companies helping to drive this, and we continue to see opportunities in changing savings patterns, both in the UK and around the world.

There are two key forces behind this: one is demographic, as people are living longer, and the other is political, as governments and employers continue to shift the burden of retirement saving onto individuals. Acknowledging this, we added two further financial themes to our list in 2018: Saving for the future, which covers the required move towards higher savings rates outlined above, and Insuring a sustainable economy, which recognises that insurance, when done well, allows risk to be spread across a community.

Focusing on Saving for the future, the starting point is the undeniable fact that every continent, excluding Africa, is ageing. Taking the UK as an example, the proportion of the population aged 65 and over is expected to rise from 19% in 2019 to 25% in 2049. Over this period, the total population is forecast to increase by around 11% whereas those aged 65 and over is expected to grow at a rate of 50%.

As the above chart shows, while the situation is the UK is stark, it compares favourably to other countries; the proportion of the European population aged 65 and over is around 20% and is expected to rise to 30% by 2040. In Spain, this is happening at a concerning pace – just 13% of the population were aged 65 and over in 1989, but this rose to 20% in 2019 and is forecast to reach 36% by 2049. The overall Spanish population is forecast to shrink by 4% between 2019 and 2049, but the proportion over 65 is expected to rise by a staggering 74%.

Due to improvements in healthcare and standards of life more broadly, people are living longer in retirement, putting increasing strain on public pensions. For the countries in the following chart, the retirement savings gap in 2015 was already at $70 trillion; the World Economic Forum (WEF), using data from Mercer, has predicted this shortfall will increase to $400 trillion by 2050 (based on 5% annual growth) if measures are not taken to increase overall savings rates.

This WEF report also calculates how long average levels of savings at retirement would last, based on a reduced annual income of 70% of final pay. There are considerable shortfalls when considering life expectancy beyond the point at which savings are used up: 15 to 20 years in the case of Japan, for example, with women set to be particularly disadvantaged due to higher levels of average life expectancy.

When it comes to state provision, it is widely expected that younger people are unlikely to receive pensions as generous as today and, in the worst-case scenario, there could well be no government support at all in some regions. Previous estimates from the Government Actuary’s Department (GAD) indicated the UK’s National Insurance fund had sufficient assets to last through to 2035-36 but recent studies suggest it may run out much sooner. This is driving longer working lives as governments gradually increase retirement ages; for many years, it was 65 for men and 60 for women in the UK, but it increased to 66 for both in 2020 and will rise to 67 by 2028 and in line with life expectancy after that.

In the UK, there have also been major changes in private pension provision, with a shift away from traditional employer-funded defined benefit (DB) plans towards individual defined contribution (DC) schemes. While both are nominally ‘employer’ schemes, however, this masks a huge disparity in saving levels. A wealth and assets survey from the Office for National Statistics, looking at the 2014-2016 period, revealed a reasonably healthy median pension pot of around £114,000 but a look beneath the surface shows an average of £110,000 for the 29% fortunate enough to be in occupational DB schemes versus £26,000 for the 14% with personal pensions and just £7,000 for the 22% in occupational DC plans.

We have seen positive developments on auto enrolment, with the requirement that all UK employers had to set up a pension scheme and automatically enrol eligible employees by the end of February 2018. However, contributions remain relatively low, meaning the resulting pension pots are unlikely to be adequate to fund a comfortable retirement.

As with many of our sustainable investment themes, the seeds lie in such concerning data but there is clearly considerable growth potential – as well as a strong sustainable case – for companies helping individuals to save and invest for their future. Our overall focus is on the shift to a cleaner, healthier and safer world, but people need to be both healthy enough and have the financial wherewithal to enjoy this, particularly with retirement lasting much longer. Office for National Statistics (ONS) data from 2015 show a 65-year-old man has a 50% chance of living to 87 and a woman a 50% chance of living to 90, and these figures should continue to improve in line with innovation in healthcare (another of our sustainable themes).

Faced with this urgent requirement for higher savings rates, we see a number of ways to invest in our Saving for the future theme: we hold insurers and wealth managers across the Sustainable Future (SF) funds, for example, and also see a particularly attractive opportunity in investment platforms. Among these platforms, we own UK companies Hargreaves Lansdown and AJ Bell and US firm Charles Schwab and also added Swedish business Avanza in 2020, which is continuing to take market share with superior technology and customer service.

Investment platforms derive their revenues on either a fee or a commission basis by allowing direct or advised clients to manage their wealth; the key metric of success is new business inflows, primarily driven by reputation, customer satisfaction and performance of any advice given. Demand is generally linked to the state of the economy and levels of saving per capita, and, as we have established, many are seeing user numbers grow as individuals have to look after their own financial futures. These are capital-light businesses, often with considerable operating leverage as revenues are linked to assets under administration whereas costs are more or less fixed. As assets grow, scale advantages can be passed onto clients in the form of reduced annual charges.

In broad terms, the benefits such companies provide are clear: reducing investment costs, making administration easier and providing opportunities for people to own otherwise inaccessible asset classes. An obvious drawback is that without advice, individuals can sometimes make poor financial decisions (although some may argue no more so than professional investors) and it would be remiss not to mention the recent GameStop situation here, where some users have treated investment platforms more like casinos than long-term saving tools.

A look at recent results from Hargreaves Lansdown (and, as we will come to show, Avanza) reveals a large rise in retail trading during lockdown, with the company attracting a record 84,000 new clients in the six months to end December 2020. At present, the press narrative around this has focused on the ‘plucky amateur investors frustrating Wall Street’ angle but this may begin to shift towards ‘enabling irresponsible activity with hard-earning savings’ if we see people losing money from these transactions, and this is certainly something to be aware of when analysing these businesses.

Our default product sustainability rating for investment platforms is B (on our A to E scale) but there is upgrade potential if they are proactively supporting and marketing the sustainable investment agenda or more than 10% of assets is invested in sustainable funds.

Our latest addition under this theme was Swedish investment and savings platform Avanza, which we bought in the third quarter of last year. We first became aware of the business following a Nordic bank trip in July 2019; we met all the major banks in the region and asked which competitors they admired. In Sweden, there was one answer we heard repeatedly, Avanza. The company offers savers low-cost access to 1,300 funds and equities across the Nordic region, Europe, the US and Canada, and 15,000 exchange-traded products including trackers and ETFs. In addition to the B for product sustainability, Avanza is rated 1 (on our 1-5 scale) for management, and, with financial service companies, we are largely focusing on customer satisfaction and culture here.

Avanza was founded in 1999 and currently has over 1.2 million customers, which translates to roughly one in seven adults in Sweden. Last year was an unusually strong one for the company, adding 304,000 customers at a growth rate of 31%; to put this in perspective, over the two years between 2017 and 2019, they added 405,000 customers. This sort of growth cannot continue forever but given that customer churn has historically been just over 1%, the future profit generated from this rise is likely to be significant.

Longer term, the business has grown its user base at an annual rate of 19.8% since 2008 and we see three reasons behind such growth. First and, in our view, the biggest driver, is how it treats customers: Avanza recently won the Swedish Quality Index award for most satisfied customers in the savings category for the 11th year running. In the most recent survey, the company also achieved a Net Promoter Score of 67, which compares favourably with the industry average of 10.

Second, our research suggests Avanza offers excellent value to its customers. As the company has grown, it has benefited from ‘scale economies shared’, a term coined by investor Nick Sleep; it has not needed to increase expenses at the same rate as customer growth given the fact a significant portion of costs are fixed. As a result, costs as a percentage of assets have declined to 17 basis points, despite the company increasing investments in personnel and technology fivefold since 2004. Rather than letting these benefits drop to the bottom line, Avanza has invested in improving its proposition to customers by lowering prices. While this comes at the expense of short-term profits, we believe it is creating long-term value through market share gains, improved retention rates and making it more difficult for competitors that lack similar scale to compete.

Finally, the current landscape for investment platforms in Sweden is more favourable than in countries such as the US or the UK. Avanza has one main competitor, Nordnet, but in Sweden the latter has less than half the savings capital and a third the number of customers. For context, over 12 months to September 2020, Nordnet added 29,600 new customers while Avanza attracted 33,200 in December alone. Outside of Nordnet, the primary competition is traditional banks and insurance companies, which tend only to offer their own products, have worse technology and, we suspect, are more costly.

Although Avanza is the dominant investment platform, there is an ample runway for growth ahead. As the pie chart above shows, the company has a strong foothold in Sweden’s shares and investment funds space, but less than 3% of savings accounts and 1% of occupational pensions and insurance, the last two of which represent more than half the country’s savings market. Avanza is taking more than a 20% share of net inflows into the Swedish savings market compared to its current market share of around 5%. We believe the company will benefit from sustained above-market growth as its market share converges with its share of net inflows.

In conclusion, we believe governments across the world will continue to incentivise individuals to save more. We are therefore optimistic about the prospects for investments in our Saving for the future theme and expect strong growth to continue for many years to come.

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