A few years ago, the term ‘greenwashing’ was coined thanks to the unscrupulous behaviour of companies that made their products appear to be more environmentally friendly than they were. Sadly, it remains a problem across all sectors today – the car emissions scandal being a great example of this – and can arguably be used to describe some so-called socially responsible funds being marketed to investors.
When it comes to buying ‘green’ and ‘socially responsible’ products, never has the term “caveat emptor” (let the buyer beware) been more apt.
The rise of socially responsible investing
In 2008, the amount of global assets invested ‘ethically’ was around £4 billion. Ten years later, that figure has quadrupled to over £16 billion, and this trend is set to continue. As a result, many new investment products have come to market in order to meet this demand. Of course, this is an incredibly positive step for our industry. Not only does it mean that investors have more choice and can invest according to their own beliefs, it also means they can come together and positively influence business practices by choosing where they are prepared to invest their money – or not, as the case may be. At the same time, though, a rapidly growing sector can also have underlying issues. Until regulation catches up with best practice, investors must be extra vigilant.
Choosing wiselyOver the last few years, it has been pleasing to see the opportunity pool grow. Investors are now able to build more diverse portfolios and find some exciting investments, while retaining their core tenet of creating a socially responsible portfolios that deliver on their goals over the long term.
However, with this growth, investors should tread very carefully. Several funds have reinvented themselves in the wake of this increased demand. But other than a name change, or a small process adjustment, they haven’t really changed much at all, and are far from being what we would deem a ‘socially responsible fund’. It seems there are organisations out there who understand the growing importance of ethical investing and want to capitalise on it without really adopting the core principles that this type of investing encompasses.
So-called ‘greenwashing’ makes ESG investors' jobs even more important as we pull back the curtain and take a proper look at these investments.
Here is what to look for when selecting a good socially responsible fund:
1. This is not a box-ticking exerciseJust because an investment claims to incorporate socially responsible values by undertaking a risk review against environmental, social and governance (ESG) metrics, that doesn’t make it socially responsible. Unfortunately, we often find these metrics are overly simplistic or that the focus is on one area (usually governance) and disregards environmental and social factors. While ESG risk governance is hugely important, it must be done well. Look for funds that show commitment to all aspects of the environmental, social and governance mix – not just one or two of these things. They must have social responsibility at their heart and have highly detailed policies on sustainability, engagement, stewardship, governance and voting.
2. PerformanceSocially responsible investing doesn’t mean foregoing the best returns in favour of your beliefs. History has shown that ESG funds can perform as well, if not better, than their non-ESG counterparts. Take, for example, the Liontrust UK Sustainable Growth fund, which is one of the strongest performers in the IA UK All Companies sector, while retaining its socially responsible tilt. The reason for their outperformance is twofold. The fund invests in companies that, by their very nature, have longer-term and sustainable strategies – plus the companies themselves are well positioned to take advantage of increased awareness and changing consumer behaviours.
3. Negative and positive screeningDon’t just look for funds that actively discount companies based on their practices, but also actively select companies based on their positive contribution to society. As capital allocators, we have the power to initiate change, and that is what we intend to do. Look for funds that can use their position as a shareholder to positively influence best practice.
4. Demonstration of Socially Responsible ValuesWhile it is incredibly important that a fund follows a strict socially responsible process while performing well, we also select investments where the wider organisation demonstrates its commitment to ethical considerations. We look for fund houses that have a track record in striving for positive change, whether it be via commitments to UN Compacts, a key focus on improving their company diversity and Gender Pay Gap figures, or even contributions to community projects. Creating an environment where corporate responsibility is high on the agenda reinforces our conviction in their ethical funds, as we can see tangible evidence of alignment with client interests.
Friede, Funnar, Timo Busch and Alexander Bassen (2015), ‘ESG and financial performance: aggregated evidence from more than 2,000 empirical studies’, Journal of Sustainable Finance & Investment. Roughly 90% of studies find a non-negative ESG-CFP relation. The positive ESG impact on CFP appears stable over time.
Financial Times, “UK ethical funds surge in popularity”. Data source: Investment Association in September 2018