Drought conditions in California have eased and interest in global water scarcity as an investment theme has become less prevalent. For Royal Bank analyst Rajan Bansi (supported by at least one rather famous hedge fund manager), now is an ideal time to invest in water-related stocks because over the longer term, growth in the sector is almost guaranteed.
Mr. Bansi's fascinating report, "Water management: The bridge to growth," argues that water treatment and conservation is a necessary condition for the economic development of the emerging world, and that makes demand for water-related services inevitable.
The historical precedents Mr. Bansi outlines are compelling.
"In the late 19th century just 2 per cent of New York City residents had water connections into their homes," he writes.
"The density of New York City at that time was a staggering 143 people per square acre, similar to present day Dhaka, Bangladesh, which is the most congested city in the world."
He points out it was a major investment in "effective technologies" at the turn of the century that resulted in the big decline in waterborne diseases in the United States over the following decades.
Mr. Bansi equates this scenario to modern day Bangladesh where a focus on water management has reduced the practice of open defecation from 42 per cent of the population in 2003 to 1 per cent today, and that the country "has experienced a period of impressive economic growth … as it prioritized water management." The report notes a similar focus has yet to take place in India, and when it does, considerable investment will be required. Currently, 600 million Indians are without indoor plumbing.
Michael Burry, the hedge fund manager made famous in Michael Lewis's book The Big Short, has been extremely bullish on water-related investments for some time. Mr. Burry's focus has been on agriculture and farmland after he concluded in late 2015 that "food is the way to invest in water. That is, grow food in water-rich areas and transport it for sale in water-poor areas. This is the method for redistributing water that is least contentious, and ultimately it can be profitable, which will ensure that this redistribution is sustainable … the water embedded in food is what I found interesting."
For investors looking to benefit from the long-term global demand for water management, the ways to do so are far from straightforward. Direct investment opportunities in farmland are difficult and rare and while agricultural commodity ETFs are available in the United States, recent performance has been mediocre. There are U.S.-listed exchange-traded funds devoted to the water treatment industry, but again performance hasn't been great. The PowerShares Water Resources Portfolio has dropped more than 7 per cent in the past year. The Guggenheim S&P Global Water Index ETF has been more lucrative, generating a 5.2-per-cent return in the past 12 months.
In terms of individual stock names, American Water Works Co. Inc. has been a roaring success, providing investors with a 52-per-cent return in the past year. The company is entirely focused on North America, however, and will not benefit from developing world infrastructure spending. RBC Dominion Securities analyst Deane Dray cites Xylem Inc. as the best "pure play" in water in her industrials universe and the stock has climbed 30 per cent in the past year. Xylem has some exposure to emerging markets – about 11 per cent of revenue comes from Asia – but is generally focused on the developed world.
The table below provides details on stocks representing companies that provide goods and services to the global water treatment industry. It should be viewed as a starting point for investors only, not a buy list – I collected the names using the highly unscientific method of combing through the top holdings of global water-based mutual funds.
For patient investors, a position in water treatment-related stocks is worthwhile. It is somewhat reminiscent of health care investments in the sense that eventual demand growth, and thus rising revenues for the sector as a whole, is extremely dependable as developing-world standards of living rise. In an investing environment where economic growth is becoming increasingly harder to find, sectors such as water with reliable, secular growth paths are far more attractive.