And the smart money is on . . .

16 October 2015

Gavin Drake looks at the good, the bad, and the ugly choices in financial investment

Move Your Money

Taking a stand: protesters campaign for carbon disinvestment

Taking a stand: protesters campaign for carbon disinvestment

ETHICAL investment is big business. And it is a fast-growing sector of the financial services industry. In 1989, it is estimated that just under £200 million was invested in retail green and ethical funds in the UK. That figure rose to £12.244 billion by July 2013.

The growth of ethical investment for consumers began in the 1970s, as a reaction to the Vietnam War. While much of the early activity was focused around boycotts, exclusions, and disinvestments, the financial-services industry was already considering the potential attractiveness of carefully packaged investment products to meet consumers’ growing ethical awareness.

In 1971, the PAX Fund became the first ethical mutual fund when it launched with a promise that it would avoid investments linked to the conflict. The sector was boosted in the ’80s and ’90s, as the public sought to turn its back on all things South African in protest at the apartheid movement.

Corporate ethical investment has a longer history. In 1895, after George Cadbury had opened his now famous chocolate factory on the outskirts of Birmingham, he built a village — Bourneville — to house its workers. The village was governed by Quaker principles, which began to unravel only after the business was bought by the American-owned Kraft Foods for £11.5 billion in 2010.

Only last month, a ban on the retail sale of alcohol in the area was overturned by Birmingham City Council.

 

THE Church of England’s three national investing bodies (NIBs) — the Church Commissioners, the Pensions Board, and the Central Board of Finance — operate according to detailed ethical-investment policies, and are advised by the Ethical Investment Advisory Group (EIAG).

“Right from the start, it was recognised that, if the Commissioners were going to invest in companies, there were certain areas where it wasn’t appropriate for the Church to invest,” the head of responsible investment at the Church Commissioners, Edward Mason, said.

“They have been pretty consistent over the years. There have been restrictions in areas like armaments, alcohol, and gambling, consistently. There have been changes as well; so tobacco restrictions came in, once the health problems caused by smoking were clear. It is continually refreshed and updated in line with how we see ethical issues in the Church, and new challenges coming up in society, like climate change, which wasn’t an issue in 1948.”

Ethical investment can be a complicated business. Mr Mason defines it as “integrating your values into how you invest”. The problem with this is that different people have different values. People who are concerned with the rural economy may want to invest in funds and businesses that ensure that farmers are paid a fair price for the milk they produce, and consider that to be an ethical investment.

But vegans and animal-rights campaigners would argue that such a fund would be contrary to their ethical standpoint, and would want to invest in funds that excluded such farming practices.

“We accept that there will be issues that only some people have concerns with,” the editor of the magazine Ethical Consumer, Rob Harrison, said. “Animal testing is a common one, or nuclear power: these are the ones that people have well-known conflicting views on.

“Most funds provide information in such a way as to allow consumers to see which funds would suit them best. Each fund should list what its exclusionary criteria and what its positive investment criteria are; and it’s a matter of finding those that suit you best.”

Mr Harrison recommends that people who wish to invest in equities should use a professional independent financial adviser, who would provide a questionnaire on ethical issues, and would then “seek products for you for that particular group of ethics”.

 

ONE question often asked by investors is whether there would be an adverse impact on their potential return by investing ethically. “We have a tremendous returns record, and we are very fortunate,” Mr Mason says. “In the annual report this year, we have produced performance figures that are just under ten-per-cent annualised over 30 years, which is a tremendous investment return.”

But he attributes this, in part, to the Commissioners’ “fantastic historic assets”, including the Hyde Park estate, in central London. “Those are great assets that you couldn’t really pick up these days,” he says. But, he continues, “ethical-investment restrictions can have a negative impact on returns, and we monitor the impact of restrictions on our returns.

“It comes and goes. It depends on the market cycle that you’re in. If the economy isn’t doing brilliantly, and you’re in a defensive cycle, then, typically, tobacco and alcohol can perform well because people carry on buying those things. We’re long-term investors. We take the long term view.

“Fundamentally, we have our restrictions because they are the right thing to do. We monitor it. There may be a negative impact at times, but we are the Church, and we want to invest in line with our ethical values.”

Mr Harrison has a more nuanced view. “It is a real fear,” he says. “Whether the evidence is that it would affect return in a big way is a moot point, really. There are quite a lot of studies done that show that companies performing well on ethics tend to perform well financially, too.”

Mr Harrison cites the current “hot issue in ethical investment” of carbon disinvestment, and says that some financial advisers are saying that they cannot guarantee performance if investors exit from carbon now.

“The jury is out as to how that would affect performance,” he says, “but, given the performance of oil companies, it has been a good choice over the past year or so because oil has been in a terrible mess.

“But fund performance is measured over the long term; so it is hard to know what the impact of exiting carbon would be. Nobody has explored that in a big way until all the divestments that have occurred in the last couple of years. So it is hard to say.”

In the 12 months to 1 October, shares in BP had fallen by almost 25 per cent, while shares in Royal Dutch Shell had fallen almost 36 per cent. “The argument from the divestment movement is that these stocks are going to perform increasingly worse as people realise that there is just no future in digging up and burning more stuff,” Mr Harrison says.

“So, to some degree, it is a self-fulfilling prophecy if enough people do it. Being part of a movement is a key element to it.”

 

THERE is, however, more to ethical investment than simply disinvesting from companies that you disagree with, or avoiding industries and sectors that you find objectionable. Increasingly, investors are seeking to engage positively with the people running the business or funds where they put their money.

The larger the investor, the larger the influence. The NIBs have long pooled their respective influence by sharing the EIAG as their engagement vehicle; but now they have gone further, and have teamed up ecumenically to form the Church Investing Group. Last year, they agreed a common voting pattern on UK company remuneration reports and director appointments, providing what Mr Mason called “a stronger and more unified church voice”.

Although the personal investor may have less individual clout, both Mr Mason and Mr Harrison agree that they can and should engage, even though Mr Harrison says that “unless [companies] have had 500 other letters on the same subject in the same year, they probably won’t take notice of it unless it comes from a self-made millionaire with three per cent of the shares in the company.

“In order to make your voice heard as a small investor, you need to join some bigger movement. Most small investors are going to be investing in pooled funds or unit trusts anyway, and pooled unit trusts should be recording their history of engagement.

“You can certainly talk to those funds about issues they should be engaging in, and they should be interested in what you have to say. They pool the money, share risk, and buy bigger shareholdings; but they also pool ideas, and can collectively lobby on behalf of all their customers.”

“They must have a say,” Mr Mason said. “I would really encourage people to think that they can have an influence in this area. We can all make a difference if we take an interest in how our money is invested. There are lots of things individuals can do.

“If they take financial advice they can go to a specialist independent financial adviser, or they can ask their established adviser about ethical options. If you are in a corporate pension scheme, you can ask your employer: ‘Do you have an ethical option?’; ‘Is there a responsible investment option in my pension scheme?’; ‘How is my defined-benefits scheme being invested?’ Ask the questions.

“The whole point about ethical investment is that money is not morally neutral. It does have an impact in the real world. It can be used positively, and consumers can use their influence positively.”

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