(Reuters) - Money manager Bill Brennan spends most of his waking hours thinking about something most Americans take for granted: water.
It may be the most essential of all commodities because without it none of us would be alive. But as an investment, water has had neither the glitter of gold nor the allure of oil.
But Brennan, a 49-year-old mechanical and biomedical engineer, is one of a small group of investors who are increasingly seeing an opportunity to make money from water.
"We look at water 100 percent all the time," said Brennan, a portfolio manager of the San Diego-based Summit Global Management, a 12-year-old hedge fund established by John Dickerson.
Summit, which Brennan says has about $500 million (321 million pounds) in assets under management, is one of a handful of U.S. funds that specialize in investing almost solely in stocks of water companies, reservoirs, land sitting atop aquifers and pipelines.
It is a niche corner of the investment world with about $6 billion in assets. There are fewer than a dozen of pure-play water-investment funds globally, a drop in the bucket compared with other commodity-based funds.
But the sector is one that some see as an opportunity to make money as fresh water becomes scarcer in parts of the globe due to population growth, farming and industry.
They say water funds are poised to reap the rewards of the need to replace aging and crumbling water and sewer systems. Infrastructure needs in the United States alone will require at least $500 billion over the next 20 years, according to the U.S. Environmental Protection Agency.
But skeptics say water investing carries a good deal of risk and the market's small size is an indication that many money managers are not sold on the growth potential. Others note pure-play water funds are often heavily invested in illiquid assets -- like water rights -- which can be hard to value or trade.
"We typically wait for a disaster to give us a wake-up call to invest in change -- or if we take a big hit in the wallet." said Dawn Van Zant, president and founder of Water-stocks.com.
THE MAN BEHIND WATER
For a water bull like Brennan, the absence of competition is an opening. He says he regularly looks at about 400 companies that derive at least one-third of their revenue from water-related businesses. Some of the businesses on his potential shopping list include pump or filter companies, as well as engineering and construction.
Among Summit's top stock picks are American Water Works (AWK.N), Brazilian company Companhia de Saneamento Basico (SBS.N) and ITT Corporation (ITT.N).
About half of Summit's money is invested in stocks, says Brennan. The firm's most recent 13-F filing with the U.S. Securities and Exchange Commission reports that its funds hold $96 million in U.S. stocks, and Brennan said the fund also holds foreign securities for a total of some $250 million worth in equity holdings.
Summit Global also owns $250 million in water rights, or entitlements to access water sitting beneath working farms in the western United States and southeast Australia, where acute water scarcity and open markets allow for the development of water trade.
"For some people it may be boring and may not be fast enough," Brennan said. "The water business is an ideal investment for endowments, family offices and people that have a long-term horizon and understand the underlying growth metrics in the business and are looking for those expected returns of 6, 8 or 10 percent a year."
The compounded annual return for one of Summit's main funds is 9.4 percent since its launch in 1999, according to an October 31 marketing document seen by Reuters. Over that same period, the Russell 2000 small cap .RUT has returned 5.8 percent.
The marketing documents show that some of Summit's best returns came from 1999 to 2006, when it averaged high double-digit gains. But since then, returns have come back down to earth. In 2010, the fund returned 7.76 percent and through October this year it was down 1.3 percent.
"Our underperformance the last few years versus the S&P is correlated to our value approach. The risk trade from March 2009 has been a difficult time for many institutional value investors," Brennan said, adding that the large exposure to utilities capped gains, as they did not participate in the market rally.
"Since we look at five- and 10-year performance vs. quarter-to-quarter or year-to-year, our approach is suited for a patient and prudent investor with a longer horizon as an investor and not a trader."
One of Summit's few U.S. competitors is hedge fund Water Asset Management, which has been around since 2006 and is fully invested in water, with some $300 million in assets.
Competition also comes from mutual funds that are eyeing the space. The best-known U.S.-based actively managed mutual funds are Allianz RCM Global Water Fund (AWTAX.O) with $72 million in assets, PFW Water Fund PFWAX.O with $17 million, and Kinetics Water Infrastructure Fund (KWIAX.O) with $16 million.
The largest funds are in Europe, led by Geneva-based Pictet Global Water Fund with $3.4 billion in assets, SAM Sustainable Water Fund based in Zurich with $1.3 billion in assets, and Kleinwort Benson Investors, the adviser for the Ireland-based Calvert Global Water Fund (CFWAX.O) with $62 million.
Todd Petzel, chief investment officer at Offit Capital Advisors, which manages $6 billion for wealthy families and non-profit institutions, says it is difficult to find a pure-water play. He quips that many so-called water funds "are polluted" with other non-water investments.
Petzel's says his strategy for clients looking to invest in water is to find specific projects via a private equity deal where clients have a long-term stake in water rights in an aquifer.
Maybe one of the best-known water investors is Texas billionaire T. Boone Pickens, more commonly known as an oil man. He is the largest individual water owner in America, with rights over the Ogallala Aquifer in the Texas panhandle, the third-largest underground aquifer in the world.
It supplies 27 percent of all irrigation in the United States and 70 percent to 90 percent of the irrigation water in Kansas, Texas and Nebraska, three of the most important grain producers in the country, according to industry data.
Another way to play water is to invest in desalination technology, which produces fresh water from sea water.
Companies such as California-based Energy Recovery Inc (ERII.O), which through its high-efficiency devices has reduced the high cost of desalination, could benefit from clean water demand. The company has more than 80 percent of the global market share in energy-saving pressure exchangers for desalination, but just 8 percent of its business comes from the United States, its CEO Thomas Rooney told Reuters.
Although the United States is the largest single water market, most of the companies in the water-funds derive their revenues from emerging markets, especially from Asia. China alone has 21 percent of the world's population but only 7 percent of the renewable water resources.
"Water is at the heart of everything you do. You can't manufacture or grow anything without the availability of water," said Neil Berlant, head of the water group at Crowell, Weedon & Co, managing about $70 million. (Reporting by Manuela Badawy; editing by Jennifer Ablan, Matthew Goldstein and Maureen Bavdek)