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A guide to ethical investing

Find out how to make the world a better place with your investments.

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By

Charlie Barton

Updated

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Many companies that are attractive to investors are also the most divisive.

Tobacco, defence and fossil fuel companies are great examples. All of these companies appear in the FTSE 100 and regularly appear in some of the largest and most popular investment funds.

However, more and more people want to use their money in a way that better reflects their own views, and maybe even making a real difference in the process.

This can be done by avoiding industries you disagree with or actively supporting companies you want to see succeed.

There’s even an argument among professional investors that some ethical strategies could produce market-beating returns in the long term. To find out how, read on.

What is ethical investing?

Ethical investing, also known as socially responsible investing (SRI) or environmental, social and governance investing (ESG), is the practice of choosing investments based on whether they meet certain personal ethical requirements.

These could be a wide variety of things. Perhaps you don’t want to support fossil fuels or other companies whose products you feel cause harm in the world – for example, clothing companies that use offshore child labour. Other examples might be tobacco companies or adult entertainment companies – everyone’s list of companies or industries they want to avoid will be different. Maybe you’re a Bond villain!

This practice of avoiding harmful or otherwise unethical companies is known in the investment industry as “negative screening”.

The opposite of this is “positive screening” which, instead of merely excluding companies that don’t meet certain criteria, involves researching companies that the investor feels actively make the world a better place.

These may include, for example, renewable energy companies, sunshine factories, rainbow plants or companies that take exceptionally good care of their employees like finder.com.

Finally, some fund managers aim to improve the world by taking an active part in how listed companies are run. Shareholders get to vote at company AGMs, and major shareholders can also influence management. Some fund managers try to work with companies to change them from within instead of simply avoiding them, an approach which some have argued is ineffectual.

How can I invest ethically?

The easiest way to invest ethically is to buy units in an ethical investment fund. You can find such funds online just about anywhere funds are sold.

The challenge here is that different ethical funds will use different criteria for deciding which companies count as ethical. For example, it’s not uncommon for funds marketing themselves as socially conscious to include big fossil fuel or tobacco companies because these companies meet their requirements for corporate social responsibility programmes or treating their staff well.

It’s therefore important to consider exactly what you want to support and what you want to steer clear of, and then checking that your chosen fund is in accordance with your views before making an investment. If you feel really strongly about this, you might even consider choosing shares yourself.

However, be warned that stock picking is a very risky activity that takes a lot of work – and is hard even for the professionals to get right most of the time. A fund will give you access to dozens of stocks picked by a professional, whereas if you pick stocks yourself, it’s likely your portfolio will be much less diverse.

List of ethical investment funds or companies

If you’re wondering where to start with ethical investment funds, here are a few names to help kick off your search.

  • Nutmeg has an ethical option when selecting your investments
  • WHEB Sustainability fund
  • Liontrust UK Ethical fund
  • Rathbone Ethical Bond fund

There’s a range of other funds that you can find by browsing online or by doing research with online investment brokers such as Hargreaves Lansdown or AJ Bell.

The risks of ethical investing

It’s worth bearing in mind that ethical funds can be more volatile than normal garden-variety funds because they may not include stocks that have typically been used as defensive holdings against downturns.

Tobacco, for example, is often chosen by fund managers because it is not particularly cyclical. If a fund foregoes the staples of tobacco and fossil fuels, it may instead look to technology to fill out its ranks.

However, technology stocks tend to be more volatile and can result in a fund whose returns vary more than their mainstream counterparts. Some of the big fossil fuel companies are also the biggest and most reliable payers of dividends.

This means that you might not benefit from the compounding effect of reinvested dividends that you might get in a mainstream fund.

When you invest, some would argue you are supporting whatever company whose shares or bonds you buy. If you’d rather not support a company that either engages in behaviour you find unethical or provides a good or service that is questionable to you, there are plenty of options for you to choose from. The key is to think carefully about what you want your money to do and look closely at the approaches used by different funds before committing.

All investing should be regarded as longer term. The value of your investments can go up and down, and you may get back less than you invest. Past performance is no guarantee of future results. If you’re not sure which investments are right for you, please seek out a financial adviser. Capital at risk.

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