As investors’ understanding of the related issues, including environmental, social and governance factors, has improved, the number of SRI-focused funds has markedly increased.
Financial advisers are increasingly asking specific questions as to whether clients want any SRI/ethical consideration as part of their investment strategy.
SRI has evolved from what was previously regarded as a more traditional ethical investment approach, where investors were focused almost exclusively on the issues, sectors and companies they wished to avoid investing in – for example, animal testing and tobacco.
This is still an approach favoured by some investors, and there are a number of funds that are managed using a negative ethical screening strategy.
Some SRI funds that adopt this approach include the Kames Ethical Equity and Kames Ethical Corporate Bond funds, which combine their specific negative screening criteria with the investment processes used in their non-ethical funds.
This means the funds also benefit from the experience and stock-selection skills of Kames fund manager Audrey Ryan for the Ethical Equity fund, and the strength in depth and fund-management skills of the Kames Fixed Income team for the Ethical Corporate Bond fund.
These strategies are then combined within the Kames Ethical Corporate Bond fund to provide a balanced, mixed asset approach for investors.
Increasingly, however, there has been a move towards using positive screening criteria and a focus on identifying sectors and companies making positive contributions based on ESG factors such as climate change, environmental waste, human rights, and resource scarcity.
This has led to the launch of a number of funds with a thematic approach, concentrating on sectors and companies benefiting from or creating solutions to ESG issues.
Some thematic SRI funds adopt a targeted approach, looking at a small number of themes or an individual theme. The Schroder Global Climate Change fund falls within the latter category, looking for companies that are helping to mitigate climate change.
The Jupiter Ecology fund concentrates on companies providing some form of environmental solution and/or protection of the environment within a small number of themes (environmental infrastructure, resource efficiency and demographics).
Finally, the Allianz Global Eco-Trends fund focuses on companies in the eco-energy, pollution control and clean-water sectors, mainly providing exposure to technology and technology-related companies.
SRI funds launched more recently have tended to concentrate much more on the positive side of SRI investing, with the wider theme of sustainability a particular focus.
This typically involves firstly identifying the specific themes/issues that require attention and then identifying the beneficiaries and solution providers at sector and company level.
This is an approach adopted by the SRI team at Alliance Trust, who joined from Aviva Investors in August 2012, through its range of Sustainable Future funds.
The team has currently identified four broad ESG themes – climate change and efficiency, quality of life, sustainable consumption and risk management, within which there are smaller themes that will be applicable to specific sectors and companies – for example, emissions, education and water technology.
The issue of sustainability is also the focus of the team at WHEB Asset Management through the management of the FP WHEB Sustainability fund.
SRI investing is central to this relatively small investment firm, and its recruitment of several team members from Henderson, including fund manager Tim Dieppe, has created a strong investment-management team. It concentrates on a number of smaller themes and looks for high-quality sector leaders.
Fund management groups applying SRI criteria on a wider scale are becoming increasingly common, and the theme of sustainability is one that First State Stewart has been considering in its fund range for some time.
This led to the launch of the First State Asia Pacific Sustainability and Global Emerging Markets Sustainability funds, now closed to new investors. Following their success First State launched the Worldwide Sustainability fund, which looks for socially and environmentally efficient companies with responsible business practices.
A number of other funds adopt a more balanced approach, combining both negative and positive screening.
Ecclesiastical is a good example of this through its Amity fund range, avoiding traditionally ‘unethical’ investment areas such as tobacco, armaments and animal testing, while supporting companies that make a positive contribution to society and the environment.
Fund-management groups also use engagement policies, encouraging companies to use more responsible business practices and apply better risk management through dialogue and voting strategies, often using specialist ESG analysts.
Groups such as Aviva, F&C, First State, Jupiter and Standard Life adopt engagement policies across a wider range of funds than just their SRI vehicles.
One concern often stated about SRI/ethical funds is that the restrictions placed on their investment approach means they are more than likely to underperform non-SRI funds.
This is a very generalist point of view and not one we would wholeheartedly subscribe to.
SRI funds usually have some form of inherent investment bias, whether that is at sector level – for example avoidance of tobacco, mining and pharmaceuticals, or a preference for industrials and technology; or in terms of investment style – most equity funds have an in-built bias towards growth-orientated stocks relative to value or income-orientated stocks.
Should these sectors or styles be out of favour then SRI funds are highly likely to underperform, but if they are in favour, or there are no particular market biases, then SRI funds have the capability to outperform. The ability of the manager and the fund-management team, and the strength of the overall investment process, will be the key determining factors.
Once a financial adviser has determined a client’s ethical investment requirements, there are several options available.
Selecting an SRI fund does not necessarily mean sacrificing performance, but it is as important as when selecting non-SRI funds to identify experienced managers and fund management teams with strong investment processes.
Stewart Smith is investment research manager of Rayner Spencer Mills Research
KEY POINTS
* The number of SRI-focused funds has markedly increased and financial advisers are increasingly asking about clients’ ethical considerations.
* There has been an increasing move towards using positive screening criteria.
* The view that restrictions on ethical investments means they underperform non-SRI funds is mistaken.
