We’ve screened out adult entertainment, armaments, tobacco and some of us have even screened out alcohol. We’ve been strict about animal testing and even gambling or gene sequencing, depending on client preference. We’ve implemented these value-based simplistic strategies since the beginning of time*.
*where beginning of time means the dawn of ethical investing with the introduction of the Pax fund in 1971.
But the question is, is it time to leave this past time in the past?
In recent years we’ve seen a huge number of different ethical approaches launch in the marketplace. Many of these approaches couldn’t be further away from an avoidance criterion than humanly possible. Instead these approaches aim to be more engaging or even directly impactful to encourage positive change.
Of course, this idea of positive change does imply that negative screening has not generated this change that we are now demanding. Instead it appears it has solely been used to ‘punish’ companies, which, in all honesty, hasn’t really seemed to have worked. For example, BP, Imperial Brands, British American Tobacco and Royal Dutch Shell have consistently been excluded from negatively screened ethical funds and yet, they are still some of the UK’s largest companies. This is the case even despite negative screening existing for nearly 50 years! With this said, we are assuming punishing ‘sin stocks’ has been the main aim of negative screening. But what if this was never actually the aim of avoidance screening in the first place?
Reputational risk, ease, or righteousness
Many institutional investors, including pension and endowment funds, must (unsurprisingly) take some direction from their membership. Therefore, it makes sense that they didn’t want to be seen to invest in stocks that went against their underlying members interests. Thus, what if negative screening has actually been so prolific as it allows businesses to demonstrate they weren’t associated with certain industries. Perhaps the truth is that they wanted to disassociate with this behaviour for reputational purposes, rather than change making purposes.
It also should be highlighted that a key reason many investors have adopted negative screens was the ease of implementing this type of portfolio – exclusionary approaches have rules, and very simple ones, to uphold. Parameters exist and therefore investors understand what they are/or are not investing in. Its simplicity could be the main reason why it has stood the test of time.
This ease of implementation could be a key reason why negative screening will exist – even as more active engagement and positive change funds flood the market. Further, some investors will always have avoidance requirements because of their own strongly held beliefs. They may wish for their values to be reflected accordingly and thus screening can easily remove businesses that go against the values they hold dear. As such, it may not sit right with these clients to take an engagement approach. Conversely, others will want to invest to have a seat at the table – to compel companies to change.
As professional investors, we can facilitate this. But we can only facilitate this if we have the supply available to us. That means, we need some of our managers to still provide funds that do screen.
Thus, perhaps the question isn’t to screen or not to screen, instead it should be:
How much screening should one use - and when?