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Ethical investing has been around for many years, but has not always been considered mainstream. Most investment companies offered one or two ‘ethical’ options, which were generally equity-based rather than covering a range of risk appetites.
Ethical funds were often more expensive than the standard alternative, and performance would usually lag behind. With such limited choice, these investments often appealed only to committed ethical investors rather than the general public. Investors (and indeed advisers) frequently overlooked ethical investment options in favour of more conventional, diverse investment choices.
But the world is changing. More companies are adapting to fairer, greener and more innovative practices, which makes it easier to include them in a mainstream investment proposition. As awareness increases, so does demand.
Traditional ethical investing has largely been overtaken by Environmental, Social and Governance (ESG) strategies, a more modern and inclusive approach to socially responsible investing.
Funds with an ESG mandate aim to invest in companies which have a positive effect on the environment or society in general. The companies selected will have strong credentials in any of the following areas:
Very few companies are perfect in all areas. This means that the fund manager needs to apply judgement and consider whether the positive aspects outweigh the negative.
Ethical investing tends to focus on screening out negative criteria. For example, companies operating in any of the following areas are likely to be excluded from an ethical portfolio:
Some ethical funds will also exclude the following:
Interpretation of ethical investing can vary between investors. For example, a committed vegan is likely to feel very strongly about animal rights, but may not be so concerned with alcohol or gambling.
Some of the barriers to ethical investing are:
ESG investing is slightly different, as it aims to assess companies on a more holistic basis. A company would not necessarily be excluded for one ‘red flag,’ providing their overall contribution to society was positive.
This means that while an ESG portfolio may not suit every investor with strong ethical preferences, the appeal is more widespread.
There are several industry sectors which frequently appear in ESG funds:
While these areas are not inherently ‘ethical’ or ‘sustainable,’ the companies themselves are found to create more good in the world than harm. For example:
Companies selected for ESG funds are usually internationally recognised global names, such as Tesla and Paypal. They are chosen for their investment potential as well as their business practices.
Consideration must be given to the individual companies, as many of them would not automatically spring to mind as an ethical or sustainable investment. The fund manager would need to weigh up the positive and negative criteria and look at any mitigating factors, for example a commitment to improving in a particular area.
The global economy is adapting. ESG investing has moved decisively into the mainstream in recent years. The reasons for this are varied:
People are generally more aware of their environment and the damage caused by plastic and carbon emissions. By supporting companies with strong ESG credentials, investors can demonstrate demand for a more sustainable way of doing business.
As this demand increases, and certain practices become socially unacceptable, companies can often be persuaded to operate in a more fair, ethical and environmentally friendly manner. Rather than being a hindrance to business progress, it becomes a basic minimum requirement. With a critical mass, investors can also influence company policies from the inside.
Innovation has been the driver behind the success of many companies operating in the ESG arena. From technology which renders the daily commute almost obsolete, to healthcare apps and green energy developments, scientific breakthroughs are a major appeal of sustainable investments. The investment potential of ground-breaking technology cannot be ignored.
The Covid-19 crisis has accelerated global change and shone a light on certain practices that were unsustainable. While the end of the pandemic would be most welcome, it has caused society to adapt in ways that are compatible with sustainable investing. For example:
Of course, there are now new challenges for companies to deal with:
Clearly technology and innovation will have a part to play in meeting these challenges in a sustainable way.
In the past, investors would choose ethical investments because they did not want to support companies which caused harm to the environment or society.
But there are many reasons why an investor might opt for an ESG screened portfolio, either as their main investment or as part of a diverse portfolio. For example:
With increased availability of ESG investments, investors have more choice than ever before. Many companies offer a complete range of funds which are multi-asset in nature rather than fully equity-focused. This means that a diverse portfolio can be created to suit any risk level, without overlooking ethical criteria.
Sustainable investments are no longer a niche option. Funds with strong ESG credentials can have a place in any investment strategy.
If any of the subject matter in this article concerns your own financial plan, then our team would love the chance to have a conversation with you to see how we can help. Book a free call with a member of our team today, without obligation. We look forward to speaking with you.
