What lies in store for sustainability in 2023?

When trying to capture 2022 in a historical perspective, you are left searching for breath. The past year has been a memorable one, with the scale and speed of changes in our key asset markets – such as equity and debt – a sight to behold. This reflected investment markets making a fundamental reassessment of the prospects for economies and companies beyond what most were thinking at the start of the year.

At the beginning of the year, it would have been reasonable to assume inflation would be transitory, with the US Federal Reserve’s Jay Powell the key cheerleader trying to calm markets that sky-high prices would soon pass, being eased as supply chain bottlenecks created by the Covid pandemic slowly vanished when economies reopened.  However, what no one was able to predict was a structural shift in energy and commodity markets as Russia embarked on an invasion into Ukraine. The resulting squeeze on energy badly hurt equities across the board, except, of course, for the energy sector – which was the only area of material positive returns this year within global and UK equity markets.

On top of energy, only health care, still benefiting from a Covid overspill, utilities, enjoying a boost from surging energy prices, and consumer staples posted positive total returns in the first 10 months of 2022. The picture was similar in the UK, with only health care and basic materials able to eke out any gains.

Considering how wrong any outlook was for 2022, is it safe to predict what lies ahead for sustainable investors in 2023? Well, for 2022 we noted it could be a tough year for sustainable strategies owing to higher valuations in growth stocks. But, while this turned out to be true, we did see valuations reset to a degree much greater than expected as inflation and interest rates both rose faster and higher than anyone predicted. So, what can we expect from next year?

First and most importantly, we believe most of the valuation reset has occurred, and even if inflation and interest rates continue to rise, it’s hard to see asset valuations similar to that seen in 2022. The drivers behind a push to a more sustainable society are accelerating, and we expect this to continue as corporate behaviour and investor interest remains high.

Putting a framework around sustainable investing can be difficult but we aim for a cleaner, healthier, safer and a more inclusive world. Meeting the needs of today without compromising the needs of the future is another way of thinking about this – but both aim to solve problems and set a positive role in society.

These problems can feel like they are piling up and society faces more challenges that it can solve but our firm belief is it is wrong to be short optimism and long pessimism. The most investable trends are in their early stages. Digitisation, turning fatal diseases into chronic, and decarbonising society are all areas we expect to be investing in 2023 and beyond. While coal and armaments may be a solution for current problems, we believe that these are unlikely to lead to a better future for society.

An important lesson to take from 2022 was how unpredictable the future, and markets, can be. This time last year, most investors had a sunny disposition with markets at all-time highs and a global economy expanding. If 12 months can create this much volatility and change to the investment environment, then the predicting the next year can result in a wide array of scenarios. Will we talking about inflation or deflation? Recession or recovery? Peace or war? These will define the direction of markets in 2023 and are largely unknowable.

Our philosophy seeks out the rational: invest in observable certainties over unobservable uncertainties. In our view, the world will be more sustainable in the future and investing in sustainable funds allows us to invest in companies providing solutions to solve future problems.

Our 2023 outlook is a bifurcated one: uncertainty in the macro, certainty in the micro. Following the latter is a key building block of our philosophy and a path we recommend.

Mike Fox, Head of Sustainable Investments

Past performance is not a guide to future performance. The value of investments and the income from them may go down as well as up and is not guaranteed. Investors may not get back the amount invested.

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Issued in December 2022 by Royal London Asset Management Limited, 55 Gracechurch Street, London, EC3V 0RL. Authorised and regulated by the Financial Conduct Authority, firm reference number 141665. A subsidiary of The Royal London Mutual Insurance Society Limited.