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Investor Education > Managed Funds > Socially Responsible Investment


Research studies have shown that ethical or socially responsible investing (SRI) is of particular importance to professionals. With the recent financial crisis and increasing public awareness about environmental issues, corporate governance and business sustainability, a growing number of investors are looking more closely at companies that are seen as 'ethical' or socially responsible. These investors are placing an increasing emphasis on the importance of the environmental, social and economic consequences of their investments, and want to know what their money is doing and that their personal values are reflected in their investment portfolios.

Consumer and business demands have no doubt placed pressure on companies to operate in an environmentally and socially acceptable way – all while being economically viable. Not only do corporations increasingly want to be ‘seen’ as socially responsible, they also need to comply with a growing number of environmental organisations and regulatory authorities. Companies are now valuing social responsibility together with their bottom line. For socially conscious investors this is good news – leading to increased range of ethical investment opportunities from a wider and more diverse group of companies.

What does ethical investing really mean?
Ethical investing aims to integrate personal values with investment decisions – but that can mean different things to individual investors. A person’s ethics, personal morals and their view on business social responsibility and sustainability may all come into play.

Professional investors typically use one of two techniques to construct a portfolio of socially responsible investments. These techniques are known as negative and positive screening. Negative screening filters out investment in companies or industries deemed to be ethically undesirable. Positive screening actively favours investment in companies that make products or engage in activities expected to benefit people or the environment. For example, while one investor might choose not to invest in a mining company because they oppose mining, another might invest in that same company because it has an exemplary stance on environmental sustainability.

Negative screening is less demanding than positive screening as investors simply avoid investing in specified sectors. They are then free to invest in the universe of other stocks according to another set of performance criteria.

Positive screening requires more rigorous investigation of investment options. For example an investor could favour companies with sound corporate governance, environmental or labour policies. This investment process can be difficult as companies are constantly changing their operations. An ethical investor using this technique needs to be up-to-date with all aspects of a company’s operations.

The way you choose to invest ethically will not only depend on your personal views, but will be influenced by your financial situation as well as your appetite for risk taking. Generally there are two ways to invest in ethical companies – either directly by buying shares in individual listed companies, or via a diversified and specialised managed fund. Ultimately, an investor’s decision will also depend on how well they know the market and their comfort level with direct investing versus hiring a professional money manager to invest ethically on their behalf via a diversified managed fund.

How do you really know if an investment is ‘ethical’?
If you’re passionate about a certain issue – say environmental sustainability – you can put your money where your mouth is by purchasing shares in a company that also values the environment. That’s fine if you know the company and you’re confident that they practice what they preach. But if you’re not, you could be compromising your values.

A managed fund that invests in ethical companies can provide investors with an assurance that each stock has been carefully researched and screened before inclusion in the fund. For example, the Portfolio Manager of Perpetual’s Ethical SRI Fund, Simon Bridger, says that for inclusion in Perpetual’s ethical fund, a company must not only pass the strict quality criteria that are applied to all the stocks considered for investment in Perpetual’s suite of Australian equity funds, but they must also be subjected to a rigorous ethical and socially responsible investment screening process.

‘Ethical and SRI research requires specialist skills and to maintain impartiality we outsource this function to two leading research firms in this field: Sustainable Investment Research Institute and Interactive Strategies. These experienced firms have different yet complementary research approaches and by using both, we ensure we have comprehensive coverage of all the relevant issues,’ he says.

According to the Responsible Investment Association of Australasia, managed responsible investment portfolios in Australia were valued at $325 million in 2000. In 2008, this figure had grown to $15.73 billion. Despite the economic downturn during 2007/08, this increase indicates sustained long-term growth in the sector.

For socially conscious investors, this means there is a growing number of professionally managed options available.

Do ethical investors need to sacrifice returns?
While ethical/SRI funds aim to achieve strong returns over the long term, many investors still have the perception that the exclusion of certain stocks, and therefore a limited group of stocks to choose from, may lead to lower returns.

Over the long term, this has not necessarily been the case. Several recent studies support the notion that investing with your values does not necessarily compromise your financial gains. On the contrary, some financial analysts suggest that companies that pay close attention to social and environmental risks and opportunities will be more competitive in the long run.

Research has shown SRI funds can outperform regular funds. A survey commissioned by the Ethical Investment Association (EIA) compared the performance of Australian equity SRI funds to their mainstream counterparts in the year to June 30, 2005. The survey found the average SRI fund outperformed the average mainstream manager. This was despite a higher than average level of fees.*

Proponents of SRI argue there is no disadvantage investing in SRI funds as their screening processes eliminate companies that engage in unsustainable business practices. They argue the companies filtered out will be less profitable in the long term. While there is not enough evidence to suggest this investment philosophy is better in the long term, there is growing evidence that there is little or no performance disadvantage in investing in SRI funds.

While different sectors experience growth during different economic cycles, investor sentiment and market trends towards ethical investments are changing. With an increased awareness of environmental and ethical issues, more businesses are stepping up to the mark, allowing investors not only to benefit from socially responsible practices – but also from solid investment returns.

Ethical investing is not just a ‘feel good’ option. As part of a diversified portfolio, ethical investments have the potential to boost overall investment returns.

*Socially Responsible Investment in Australia 2005 Survey – Commissioned by the Ethical Investment Association, October 2005.


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