From High-Yield to High-Minded: Global Sustainability Trend Steers Investors Towards Socially Responsible Investing
Experts capture the growth of investor interest in socially responsible investments (SRI) – investments in securities of companies that allegedly work for the good of the environment and society. What makes such investments interesting?
Investments based on social, ethical and environmental criteria have increased significantly in the last decades. This is particularly true for the United States but also for Sweden, the United Kingdom, the Netherlands and Switzerland. According to experts from Morgan Stanley, after a survey, at least 75% of the interviewed investors reported that they are interested in socially responsible investment or follow this strategy in their financial decisions. The greatest interest in such investments was recorded among the millennials – young investors born in the late 20th century. Among them, the share of those who are actively interested in such strategies or use them was 86%. The boom in ethical funds follows a string of high-profile governance failures, ranging from the Lehman Brothers bankruptcy, Volkswagen emissions scandal to a series of rows at FTSE 100 companies over high executive pay.
Investors are increasingly interested not only in generating income on invested funds but also in influencing society through their investments by creating positive social changes, reducing the negative impact on the environment and complying with ethical standards. SRI is a generic term covering ethical, responsible investments, sustainable investments, and any other investment process that combines investors’ financial objectives with theirs. The investment process involves screening and integration combined with engagement and advocacy. The negative screening addresses unethical business segments like nuclear energy biocides, gambling, genetic engineering, armaments and unethical business activities like labour law violations, human rights violations. Positive screening is focused on the topics and industries in infrastructure, cleantech, renewable energies, recycling, mobility, agriculture, food products, water together with companies following ESG (environmental, social and corporate governance) criteria.
Ethical funds have become more and more popular. During the first quarter of 2019, more than $4 billion flowed into U.S. sustainable open-end and exchange-traded funds of the United States, setting a record for a quarter. According to figures from Hargreaves Lansdown, the fund broker, money held in ethical funds has risen from £4.5bn in 2008 to £16.7bn today as sales increase. More than £600m from individual investors flowed into ethical funds in the first half of 2018, according to the Investment Association, the UK asset management trade body. In 2008, about £180m was placed into the funds over the year.
The question is whether SRI is actually profitable. As the growth dynamics of American exchange-traded funds formed based on socially responsible companies shows, “high-minded” investments may well be profitable. For example, since the beginning of 2019, iShares MSCI USA ESG Select (SUSA) foundation (includes 112 US companies from different industries that were selected according to ESG criteria) has risen by 8%. For comparison: S&P 500 for the same period increased by 6%. But investing in individual stocks based on the ESG criteria alone should be avoided. If ETF portfolios include a large number of different holdings and are well diversified, then buying a separate stock without taking into account the fundamental factors is fraught with high risks. For example, the stocks included in iShares MSCI USA ESG Select Foundation (SUSA), individually showed very different dynamics since the beginning of 2019. While in that time Henry Schein (the vaccine developer) rose 17%, and Microsoft went up by 28%, the quotes of the pharmaceutical giant Gilead Sciences, on the contrary, fell from January by 3%. Therefore, by buying individual stocks, the investor risks earning less than when investing in an exchange-traded fund.
To add to that, several online wealth managers argue that the narrow range of ethical funds available means that creating a diversified investment portfolio is difficult. By only focusing on positive screened ESG companies socially responsible investors could undermine their portfolio diversification across a range of assets and industries. IG, Moneyfarm and Scalable Capital, which is backed by US asset manager BlackRock, all say they are unable to put together ethical portfolio options. Nutmeg, the UK’s largest robo-adviser, has argued that because different asset managers interpreted “ethical” in different ways, they could not construct an ethical portfolio that would please customers. Ethical funds can also be difficult to access for pension savers, with many company schemes offering only a narrow range of ethical funds.
SRI investment with ESG values has been significantly integrating in Liechtenstein. As Simon Tribelhorn, CEO of Liechtenstein Bankers Association says; “In our core business — private banking, assets management, wealth management, we see a huge trend towards sustainable finance among wealthy clients. If clients are interested in sustainable finance, then Liechtenstein will be a location of choice for them when they are looking for a stable environment based on the Swiss franc.”
Authors: Natalia Soloviova, Partner in Heritage, Consulting and Law Centre, Russia
Celine Ouambo, University of Liechtenstein