National Ethical Investment Week has got off to a great start and attracted a decent amount of publicity. As ever, there is some level of confusion about exactly what makes a fund an ethical fund. There is a plethora of terminology here around ethical, socially responsible, sustainable, screened, or best-in-class. Investors Chronicle provocatively pointed out that nine out of 10 funds marketed as ethical or socially responsible in the UK would be banned from doing so if they were sold in Belgium or France because they do not comply with Eurosif transparency guidelines, as if the defining criteria of ethical funds is adhering to such guidelines.
In the early days of ethical investment the criterion was simple. Ethical funds were those that screened out ‘unethical’ industries such as arms, alcohol, pornography, tobacco etc. These were the pioneers and should be applauded as such, and many of them are still around today. There is an attractive simplicity to this way of defining the industry too. But things rarely stay simple and the industry has appropriately evolved into other forms of ethical investing. The focus shifted from being exclusion based to thinking about how companies can be encouraged to improve their operations. This is how the ‘best-in-class’ approach developed where the fund invests in companies exhibiting best ethical and sustainable practices in their industry. In some cases these funds may include industries that were screened out by an earlier generation of ethical funds. Engagement can then be used to encourage companies to move towards or enhance industry best practice.
The natural next shift of focus was towards industries that are themselves intrinsically helping to make the world more sustainable – whether this is through the provision of cleaner energy, environmental services, healthcare, education or a range of other sustainability themes. This is what we do at WHEB. Of course, if our focus is on industries that are providing solutions to sustainability challenges then we are naturally not investing in arms, alcohol, pornography or tobacco. Not only so, but we are also not investing in oil, gas, mining, banks, and many other industries and companies who’s track record in improving society or the environment is questionable to say the least!
This means that the end investor does not see the same list of banks, oils and miners in the top ten holdings that they see in many other non-ethical (not to say unethical!) funds. We believe this is what most ethical investors want. Indeed Mark Hoskin of Holden & Partners concluded after analysing a survey of investors that: “Investors today may be more concerned about the environment and irresponsible marketing rather than simple Quaker principles and exclusions.” The survey showed that: “ethical issues including pornography, alcohol, gambling, tobacco and animal testing, which were historically some of the most popular negative screens, were now of least concern to respondents.” Investors expect more from the funds they invest in than merely avoiding certain industries. They want to know that their investments are making a positive difference.
So how do we define ethical investment? At minimum, the investment process must be based around values that extend beyond maximizing short term profits whilst ignoring the long-term costs. If we have learnt anything from the current state of the environment and the financial crisis it is that short-term thinking is extremely damaging for people, the planet, and investment returns. Ethical funds should only invest in companies which are interested in creating value for all stakeholders: customers, shareholders, suppliers, employees, society and the environment. This is the best way to ensure long-term success.
Ideally, ethical funds should engage with companies held in their portfolios to encourage them to improve their operations and practices. While ethical investment is so much more than just transparency, we believe transparency is fundamental to obtaining the trust of investors, and we are proud to be one of the few UK funds that would qualify to be labeled ethical or socially responsible in Belgium or France.
Ethical investment is here to stay. It has grown and developed from the early pioneer days of simple screening to encompass a wide range of investment approaches. It is what the majority of investors want. It is an exciting industry to be involved in. National Ethical Investment Week should help promote awareness of ethical investment so that more people choose to invest in ways that make a difference to the world we live in.