Investors are increasingly investing their money with sustainability concerns in mind, figures show. As October marks Good Money Week, we take a closer look at what ethical investing is and how the demand is growing.
It’s predicted that the UK’s demand for ethical investment will grow by 173% by 2027, according to research from Triodos Bank. With the projected total amounting to £48 billion, ethical investing is slowly moving into the mainstream. But what is it and how does it influence your investment choices?
What is ethical investment?
In simple terms, ethical investing is where you invest your money with other considerations beyond the financial return in mind. You base your investment decisions on the impact your money could have; creating a double bottom line if you will.
When you look at changes in society in general, it’s not surprising that ethical investment is growing:
- Have you already cut down on the amount of plastic you use?
- Do you purchase Fair Trade items from the supermarket?
- Or are there some brands you avoid because they test on animals?
These are ethical decisions you make as part of your daily routine; ethical investment is an extension of this.
Ethical investment comes in many different forms and there are a lot of terms used to broadly cover the same motives. You may have heard phrases like:
- Sustainable investment
- Responsible investment
- SRI (socially responsible investment)
- Impact investing
ESG (environmental, social and governance) is another commonly used term that breaks down ethical investing into three core areas of consideration:
Environmental: These are investment concerns that cover a range of environmental impacts. Companies developing renewable energy sources, providing alternatives to deforestation or taking steps to improve the local ecosystem can fall into this category in a positive way.
Social: Again, the social segment covers a broad range of issues. Providing safe working environments, paying a living wage and ensuring no children are employed throughout a supply chain, are social issues to consider. It can also cover a company’s impact on the communities where it operates.
Governance: Governance issues focus on how the company is run. Funds that cover governance issues may, for example, look at female representation on boards, whether the company avoids paying taxes or remuneration levels of the highest paid executives.
What’s the size of the ethical investment market?
When you look at the size of the whole investment market, the number of funds taking ESG factors into consideration is still niche. However, it is growing, and the pace of growth is set to increase.
In 2023, the market will reach a ‘tipping point’, according to Triodos Bank. This is partly being driven by the next generation of socially conscious investors seeing an increase in their income. As a result, the UK market alone is expected to reach £48 billion by 2027.
The Triodos Bank research found:
- 55% would like their money to support companies which contribute to making a more positive society and sustainable environment
- 61% of investors believe that for the economy to succeed in the long term, investors need to support progressive businesses tackling ESG issues
- A fifth of investors are planning to invest in an SRI fund by 2027
- Ethical investment appeals more to younger generations; 47% of those aged between 18-34 intend to invest in an SRI fund within the next nine years
- Within this group, 56% are motivated to invest in ethical funds because of climate-related disasters in the news; compared to 30% for older counterparts
While there is a growing interest in ethical investment, there is still a limited market, which can make it challenging. 73% of UK investors have never been offered ethical investment opportunities. Furthermore, 61% would not know where to go for more information in SRI.
Despite this there is a demand for more information; 69% of investors would like to have more knowledge and transparency about where their money goes.
The challenge of defining ‘ethical’
You may have already spotted one of the biggest challenges with ESG investing; we all have different values and ethics. It’s a highly subjective area.
You may consider a company to be ethical because it’s taking proactive steps to improve the lives of its employees in the poorest parts of the world. Someone else, on the other hand, may say the company is unethical because the firm operates in the oil and gas sector, resulting in environmental degradation. As a result, it’s important to define what your personal priorities are, as well as where you’re willing to compromise, before you start looking at ethical investment opportunities.
According to Triodos Bank, these are the five biggest issues that would put off investors:
- Manufacturing or selling of arms and weapons (38%)
- Worker/supply chain exploitation (37%)
- Environmental negligence (36%)
- Tobacco (30%)
- Gambling (29%)
So, how do you invest with your values in mind? There are three key ways to do so:
1. Negative screening: This is where you actively remove companies from your portfolio or avoid investing in them because you don’t consider them to be ethical.
2. Positive screening: Positive screening is where you actively invest in companies that align with your principles, allocating a portion of your investable assets to support these firms.
3. Engagement: An engagement strategy is where you use your power as a shareholder to promote long-term, ethical changes. As it relies on shareholder power, it’s a strategy that’s more effective for institutional investors, such as pension funds, than the average retail investor.
The above are ways of investing ethically and striving to encourage change but do this in very different ways. In the case of energy and reducing the amount of carbon emissions, for example:
- A negative screening approach would divest from oil and gas companies
- An investor using positive screening would put their money into renewable firms
- While those using the engagement approach would hold shares in oil and gas but vote at Annual General Meetings to invest in sustainable technologies
As with all investments, you do need to balance the risk of your investments potentially decreasing in value. The value of your investments (and the income from them) can fall as well as rise and you are not guaranteed to make a profit. Past performance is not a reliable indicator of future performance. Investing in shares should be regarded as a long-term investment and should fit in with your overall attitude to risk and financial circumstances.
If you’d like to discuss how your ethics and values can be reflected in your investment portfolio and what impact this could have on financial return, please get in touch.