When I first started building socially responsible portfolios for clients some 15 years ago, it usually was enough to select a fund with ‘ethical’ in the title. We screened funds for clients on what we term a ‘negative’ basis. The usual shares that our ‘ethical’ clients wanted to avoid were firms that took part in Cosmetic Animal Testing, Tobacco Production, Arms Dealing and Alcohol.
Today, I find that investors take a more ‘positive’ screened approach. They want to know that their money is being invested in a way that makes a positive impact upon our environment and society. I also have noted – somewhat anecdotally – that some ‘ethical’ funds tend to hold a more loyal investor. They don’t appear to suffer the volatility that huge outflows can cause with more mainstream funds.
These findings were mirrored when I attended Standard Life’s good money event on Thursday at the Gherkin. From the heady heights of the financial district, I looked out across a beautiful city wrapped in smog as I listened to various presenters on the topic of ethical and environmental investing.
I was struck by Standard Life’s ESG (Environment/ Social Governance) approach to their whole range of investment funds (not just ethical). For them, it would seem, ESG helps them to highlight firms that may be behaving in such a way that they present risks not just to the environment or society but to their shareholders.
They are also very good at asking their investors what ‘ethical’ looks like to them. Each year they send a questionnaire out to a fairly large sample of clients asking them which issues matter most to them. Deforestation is the biggest concern to their clients at the moment. A staggering fact is that globally – a forest area the size of South Africa has been destroyed in the past 25 years!
Standard Life explained that it is not as simple as avoiding tree felling companies, however. They gave examples of a paper manufacturer and a UK house builder who both hold their own forestry so that they can be certain their wood is certified as sustainably planted. These kind of behaviours tend to lead to businesses that have longevity and are worth considering for investment.
I was struck by how few wealth managers attended the event. We were told that less than 1% of the funds recommended to clients every year are ethical. This doesn’t surprise me. My experience from discussing this topic with my peers is that most financial advisers find it very difficult to research and implement ethical fund recommendations. The general approach seems to be ‘why bother?’
Our experience at Thomas and Thomas is that most of our clients will understandably take the mainstream investment option. They don’t want to invest ‘unethically’ but investing in a far narrower range of funds is something they struggle to consent to. Purely ‘ethical’ portfolios still only account for around £2,000,000 of our funds under management.
However, many clients are now asking for some ethical ‘representation’ within their portfolios. Furthermore, we are noticing the younger generation starting to ask more about issues such as Human Rights and Renewable Energy investment.
But is ‘ethical’ investing just a costly fad? Something that normal people should avoid?
I decided to run a study measuring the cost of ethical investing on our clients’ portfolios over time. Using the ‘Uscan’ tool on Old Mutual powered by Financial Express, I was able to track back three years of historical performance as a comparison.
Starting with our more adventurous level four ‘Thomas and Thomas Ethical’ portfolio, I could see historical growth to the 19th of October this year of around +31.74% over three years. This compared to +42.9% for our ‘Thomas and Thomas Proactive’ level four portfolio. The cost of investing ethically is shown clearly in this instance, although the ethical portfolio was certainly no slouch over the same period.
The gap closes, however, for the more cautious level two comparison which shows growth of around +24.49% for our ethical portfolio against +29.88% for our ‘Thomas and Thomas Proactive’ equivalent over three years again.
The real issue for ethical investment is the diversification that it can employ. An example might be the option to invest in Tobacco when markets are under pressure. People continue to smoke cigarettes, so this stock is termed ‘defensive’ because it can offer some ‘negative correlation’ to a portfolio when things are tough. It is hardly ‘ethical’ though.
However, the ‘positive screening’ and ‘impact’ approach to ethical funds is now making them more attractive to investors from a performance perspective. They are still more ‘narrowly’ invested, but the opportunities are widening all the time.
I believe that Socially Responsible investing is on the rise. There is an ever growing need to understand not just how your investment is performing but where it is invested.
The ethical tail should never wag the investment dog – but I believe there is an exciting future in merging ethical themes into clients financial plans which will serve their futures and their grandchildren’s too.
For more information on our ‘Thomas and Thomas Ethical’ proposition please contact Darren or Katy on 01437 772228.