Are there more ways to invest ethically?

Whether it’s an equity fund investing only in companies that measure their impact on the environment, a green bond or a fund tracking an ethical index, it appears investors are spoilt for choice.

Ryan Smith, head of ESG at Kames Capital, believes there has never been such a broad range of sustainable investing options.

He cites a greater number of companies for funds to invest in, either “new companies with a sustainability focus or established players transitioning their business to a more sustainable approach”.

“Previously, if you wanted to invest ethically/sustainably, there were fewer options – the opportunity set for those funds was less (or more narrowly defined) and performance might not have been compelling,” he reasons. 

He observes new funds have “tended towards an impact investing message, demonstrating the social or environmental benefits of their strategies”.

Incorporating values

Amanda Young, head of responsible investment at Aberdeen Standard Investments, observes there is a larger number of both active and passive products which cater to the growing demand for different sustainability concerns.

“Specifically, at a product level, new products continue to be launched that incorporate values into their construction. These include traditional ethically screened funds that avoid investing in companies in so-called ‘sin’ sectors, such as defence or tobacco,” she explains.  

More recently, the social impact investment market has grown which allows investors to direct their capital into social enterprises that will achieve both a financial and social return.Amanda Young

“Some funds take a thematic approach to sustainability issues, such as climate funds or water funds. In addition, fund choices reflect personal religious values with various Christian or Sharia-based funds available to the consumer. 

“More recently, the social impact investment market has grown which allows investors to direct their capital into social enterprises that will achieve both a financial and social return,” notes Ms Young.

Darius McDermott, managing director at Chelsea Financial Services, offers an example – the Alquity range of funds which don’t invest ethically but instead reinvest in the regions in which they invest, helping small businesses by using some of its annual management fees to fund loans.

Proof is in the performance

More evidence that investing sustainably can generate alpha has also encouraged investment firms to enter the fray.

According to research by Moneyfacts, over the past year, ethical funds have “had the edge over” their traditional counterparts, posting an average growth of 16.8 per cent, compared with 15.2 per cent from the average non-ethical fund. 

This outperformance holds up over the longer term too, as over three years, the average ethical fund delivered a 30.4 per cent return, eclipsing the average non-ethical fund which returned 29.1 per cent, Moneyfacts notes.

As Richard Eagling, head of pensions and investments at moneyfacts.co.uk, suggests: “With every passing year, the traditional view that investing ethically entails sacrificing profits looks increasingly outdated. 

“In our latest survey, ethical funds have more than held their own, performance-wise. The figures support the view that sustainable practices and good governance can give companies a competitive advantage. 

“Indeed, as well as generating strong returns, ethical and SRI funds can play a key role in helping investors mitigate risk.”

Its most recent survey, Moneyfacts looked at the performance of ethical funds versus conventional non-ethical funds over a number of investment periods and compared ethical funds within the four Investment Association sectors that contain the most ethical funds – Sterling Corporate Bond, Global, Mixed Investment 40-85% Shares and UK All Companies.

Figure 1: Ethical funds versus non-ethical funds (percentage growth)

Source: Moneyfacts/Lipper Investment Management. Percentage growth as at 1 July 2017, total return, UK net, no initial charges.

But Mr Eagling remarks that while the performance justifies the case for investing ethically or sustainably, ethical funds remain a small segment of the overall retail fund market.

“Given the strong performance of many ethical funds and the feel-good factor associated with investing with principles, the retail SRI fund sector should have a bigger following,” he suggests. 

“It is disappointing that in the 33 years since the first ethical fund was launched, ethical funds still only account for 1.2 per cent of the total assets under management across the entire retail fund universe.”

This could simply be because these types of approaches are yet to become truly mainstream.

Educating advisers

Ethical, ESG and sustainable investing strategies started out in the institutional fund space, trickling down to retail funds over the years.

“But that’s not too uncommon for many innovations,” points out Damian Payiatakis, director of the impact investing business at Barclays.

“So it’s not necessarily that retail investors have not been interested or involved. It’s just the acceptability of products and the visibility [of ethical investing], and also investment managers running products, promoting or advising people on it is… happening now. I wouldn’t say we’re there yet but people are becoming more active in the space.” 

In September this year, Barclays announced the launch of its Multi-Impact Growth fund, an impact investing investment vehicle for mainstream investors, which it claims is the first of its kind from a high street bank.

Its research found that 56 per cent of investors are interested in this type of product, but only 9 per cent have already made an investment.

The fund uses a fund of funds structure, explains Mr Payiatakis, after the firm recognised its clients and investors often struggle to understand what impact investing is and find good managers in the space.

Does this mean there’s a knowledge gap among advisers?

Mr Payiatakis believes there is, with investors not necessarily getting the support they want from advisers when it comes to responsible investing.

Bonny Landers, head of sustainable, responsible and impact investing at Sandaire, thinks around two years ago there was a gap but that now it’s closing.

She reasons: “It’s getting easier and easier for them [advisers]. We’ve got all the big firms basically spoon feeding us the information, as long as you do the extra due diligence to look and see what’s in there, behind the numbers.”

However, she does not necessarily think the sustainability ratings, as launched respectively by Morningstar and MSCI, are quite there yet.

“I think there’s still a few hiccups with the methodology, so I’m still on the sidelines and not recommending we use the ratings, at least not solely,” she notes.

Others in the industry have displayed some reservations about these ratings, including Kames Capital’s sustainable investment analyst, Georgina Laird.

While the ratings agencies take a similar approach to one another in quantifying sustainability, they can arrive at very different conclusions for the same companies.Georgina Laird

She acknowledges while these ratings have a role to play in helping the consideration of sustainability become more mainstream among investors, they need to be used alongside other factors in the investment process.

Ms Laird continues: “While the ratings agencies take a similar approach to one another in quantifying sustainability, they can arrive at very different conclusions for the same companies.

“Recognising that different approaches can result in different conclusions is vital for investors to understand before relying on the ratings as evidence of how sustainable a company or fund is.”

The volume of funds and other products seem to address the growing interest around investing with an ethical conscience but this doesn’t mean advisers and investors can set and forget.

Ms Young suggests: “The key thing for an investor is to ascertain exactly what a fund’s policy is, and how the fund is constructed to ensure the values are reflected in the underlying assets.” 

eleanor.duncan@ft.com