The desire for ethical investing is gathering momentum but what is it and can it really make a difference?
There are many different terms used to describe ethical investing including SRI, ESG & Impact Investing but what do they really mean and which one would you prefer?
Essentially, each term is a different method for ‘screening’ companies and indexes to only include those that meet certain ‘ethical’ criteria.
SRI stands for Socially Responsible Investing and in short is a screening process that seeks to exclude certain undesirable businesses or sectors such as weapons manufacturing, pornography, gambling, tobacco, nuclear power etc. It is considered a more ‘traditional’ approach to ethical investing and is relatively straightforward.
ESG is Environmental, Social, Governance and selects businesses based on how they score on environmental issues, their treatment of staff, impact on their surroundings and how well they are run. Businesses with bad governance run the risk of scandal (emissions, data breaches etc.) which, negatively impacts their share price.
Impact Investing is ‘dark green’ (highly ethical) and only includes companies specifically developing products and technologies designed to improve life on Earth such as renewable energy, sustainable agriculture, education & micro-finance.
Only around 6% of the world index falls into the impact investing category which reduces diversification however multiple screening methods can be applied to broaden the number of available companies that can be included in an ethical fund or portfolio.
So essentially, the terms used to describe ethical investing are the methods used to choose suitable investments from the available universe of companies.
These methods can be combined to include a wider selection of socially responsible, well run businesses as well as those specifically working to make the world a better place.
We can see from the above how, by choosing to invest ethically, your investments can contribute to making the world a better place.
Every heard the expression ‘money talks’?
Besides investing specifically in funds containing ethically screened companies the flow of money into the ethical funds means these funds can purchase greater shareholdings in the underlying companies. Greater shareholdings give greater voting rights and the ability to influence the decisions of the board.
In addition, as more money flows towards ethical investments and away from non-ethical funds, companies will need to comply to ethical parameters to be included in ethical funds and get their share of the money being invested.
These are ways that choosing ethical investments over non-ethical alternatives can help to make the world a better place.
When choosing investments there are other things to consider such as the performance of the investment and any associated costs.
In the past, because choosing ethical meant choosing from a more limited number of companies the performance may have been affected, in addition the screening process consists of an additional layer of human involvement which, comes at a price so the underlying price of choosing ethical may have been higher than non-ethical alternatives.
As more people choose ethical, more options become available and the cost reduces and with a variety of screening methods now being used the range of possible investments has grown and screened funds have started to outperform their non-ethical peers.
Ethical funds can be chosen for inclusion in pensions, ethical isas and all other wrappers where appropriate.
For more information, visit Ethical.Money