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Ethical investing explained

What terms including ESG, SRI and impact mean, plus how to find investment funds and trusts that match your values

In this article
What is ethical investing? Why invest ethically? Will ethical investments make me money?
What investments are ethical? How can I invest ethically?

What is ethical investing?

Ethical investing is an umbrella term for all approaches to investing that consider values as well as returns.

The term also covers issues including, but not limited to, climate change, workers rights, gender equality, arms, tobacco and gambling when selecting companies and other assets.

There are several approaches to ethical investing, with labels you may find on investment marketing materials.

Unfortunately, there’s no regulation of such labels and definitions can be broad:

 

Ethical (as applied to funds)

 

Applying negative and/or positive ethical or ‘values-based’ screens to help sift investments.

 

Sustainable and Responsible Investment (SRI) / Socially Responsible

 

A wide range of investment strategies that focus on ethical, social and environmental issues.

 

Environmental, Social and Governance (ESG) investing

 

Strategies that take into account environmental, social and governance related risks and opportunities, often to help reduce risk.

 

Impact investing

 

Investing in a way that delivers measurable social and/or societal effects and benefits as well as financial returns.

 

Dark green investing

 

A strictly screened approach, avoiding any company or industry that does not meet its criteria. 

 

Light green investing

 

Seeks out companies that are doing good as opposed to excluding companies that are considered to cause harm.

 

Sustainable investing

 

Focuses on environmental and social sustainability issues to help deliver strong investment returns and address issues such as climate change.

Why invest ethically?

Ethical investing is a way to grow your savings without compromising on your values. As with all investing, it involves risks.

Traditionally, ethical investment products, such as funds, enabled you to avoid investing in companies or sectors you disagree with. This is known as divestment.

Cutting out sectors involves risks - that you’ll miss out on growth - and opportunities: if your portfolio excludes oil and the oil price falls, your portfolio is less likely to be affected.

Proponents of environmental, social and governance (ESG) investing, a type of ethical investing, claim that the extra analysis involved means you end up with better-managed companies. During the coronavirus pandemic, ESG indices (upon which tracker funds were based) tended to outperform non ESG-indices.

You could also argue that taking into account societal shifts - such as growing concern about climate change - will give you exposure to growing industries and new technology, such as renewable energy.

Will ethical investments make me money?

Potentially, like all types of investments, the value of assets can go up and down. For guaranteed returns you’re better off with a savings account.

Trying to compare the performance of ethical and non-ethical investments is increasingly irrelevant, due to the huge variety of ethical investments and approaches.

Instead, look at the individual company, fund or investment trust you’re considering investing in.

Some well-established ethical funds now have several decades of growth under their belt, although, of course, this no guarantee that they will perform well in the future.

Do make sure that your portfolio is sufficiently balanced to shield you from market downturns - excluding companies makes this more difficult, but certainly not impossible.

What investments are ethical?

You could buy shares in individual companies with which you agree, but building a balanced portfolio this way is very labour intensive.

Investment funds or investment trusts enable you to invest in hundreds or potentially thousands of companies at once. They follow the various investment approaches described above.

In exchange you pay a fee. Actively managed funds, where a fund manager or team picks the investments, charge higher fees. Passively managed funds tend to charge lower fees, but rely on indices and/or data to decide what to invest in.

There are a number of fixed income investments available for more risk-averse investors, such as green and ethical bonds.

Alternatively, you could ask a financial advisor to choose investments for you, at a cost. Consider using an adviser with experience in ethical investing and be clear about what issues matter to you.

Ethical portfolios are offered by an increasing number of robo-advisors, which pick funds for you based on your risk appetite. Make sure you know what issues are being considered and check the fees you’ll be paying.

How can I invest ethically?

To avoid ending up with investments you’re not comfortable with, some research is required. And before you start, make sure you’re ready to invest

1. Pick an issue (or issues)

This will help you narrow your search for investments. It’s possible to build a portfolio that takes several issues into account.

2. Choose an approach

Do you want to exclude certain sectors altogether? Or would you prefer to invest in problematic companies in order to improve them? Or do you want your money invested in finding solutions? Again, you can combine these approaches.

3. Check the fund or trust

You can search for funds or trust through your investment platform, through Morningstar or through Fund EcoMarket, a search engine for ethical funds.

The fund or trust manager’s website should explain their approach: if not, contact them directly.

Also check how the fund manager has voted at company annual general meetings. Share Action often reports on this and many fund managers publish their voting decisions.

4. Build a diversified portfolio

Don’t put all your eggs in one basket. A properly diversified and balanced portfolio should include investments in different sectors, regions and assets, not just company shares. Read more about portfolios here.

 

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