What Is Ethical Investment?

ETHICAL OR SOCIALLY RESPONSIBLE INVESTING involves consciously putting money into financial plans or businesses that don’t damage the environment or have negative social outcomes. The aim, of course, is to simultaneously derive a return on that investment. 

It turns out that ethical investment isn’t a new concept. The Quakers were doing it back in the eighteenth century, insisting that their members couldn’t engage slaves, arguing, rightly, that a trade that involved the buying and selling of people was immoral. Similarly, in the same era, Methodist preacher John Wesley wrote a sermon called The Use of Money. In it, he questions whether gold, silver and other valuables were to blame for corruption. ‘The love of money, we know, is the root of all evil; but not the thing itself. The fault does not lie in the money, but in them that use it,’ he concluded. 

Man, this guy had no idea how much worse things were going to get. 

By the twentieth century, more people were advocating against investing in ‘sin stocks’. But, while a small number of people could see the benefit of investing in good over evil, the reality was that alcohol, tobacco, gambling and coal paid the big bucks. 

Ethical investment funds started to pop up in Australia during the 1980s and 1990s. But it wasn’t until the early 2000s that increasing consumer pressure and ‘green activism’ pushed those running larger institutions to sit up and take notice. 

This wasn’t just about climate change, though. The word ‘ethical’ is open for interpretation in the investment space. Being ethical in business means different things to different people. It also depends on what your business is. A beauty company might be considered ethical because its research and development doesn’t involve testing on animals. An accounting firm might be considered ethical because it pays its staff above award wages and provides quality working conditions. A fashion designer might be considered ethical if they choose to manufacture their garments locally, create domestic jobs and advocate against child labour. 

So, where are we at right now? 

Today, according to the Responsible Investment Association Australasia (RIAA), approximately $1 trillion of the $2.24 trillion in managed funds is classified as ‘responsible’. That’s not just because Australians are increasingly more aware of the impact their investments can have, it’s because ethical investment is really starting to pay. Big time. 

A 2019 report by the RIAA showed that responsible share portfolios are consistently outperforming the benchmark. While the ASX 300 index showed returns of 5.6 per cent over five years and 8.91 per cent over ten years, ethical investment was returning 6.43 per cent and 12.39 per cent, respectively. 

It’s hardly a surprise. Ethical investment and innovation go hand-in-hand. Sustainable, environmentally friendly and socially conscious businesses are often making essential contributions to our future, and frequently taking a tech-focused approach. They provide products and services that are in demand. And where there’s demand, there’s likely going to be an ongoing return on investment. 

Imagine if you’d invested in Google just as the internet was taking off. The same logic can be applied to your approach to ethical investment. Why wouldn’t I invest in renewable energy over coal? It makes sense to put my money into healthcare rather than tobacco. Aged care is among the fastest-growing sectors in Australia, and the need for better services and facilities is going to impact all of us in the future. 

But if you were an early adopter of Google shares, you were taking a massive risk. No one knew it was going to be the behemoth that it is today. There was no history of returns when Google first went public. So if you’re investing in ethical ventures that are new, it’s important to do research, as much as is possible, with whatever information is available. 

Of course, we are seeing plenty of ethical disruptors that are delivering returns to happy shareholders. Like all shares, though, ethical options can rise and fall over time. Nonetheless, investors are keeping a very close eye on the ethical market. 

Why green is the new black 

There are a few reasons why ethical investment is on the up. For starters, young professionals are becoming acutely aware that they can invest in products that are aligned with their values, and that’s driving a significant amount of change. Say what you will about smashed-avocado-eating millennials, but they’re leading the charge. According to a 2017 survey by Lonergan Research on behalf of RIAA, millennials were the most likely cohort (75 per cent of respondents) to choose a super fund with environmental, social and governance screening, while also seeking to maximise their returns. Sixty-nine per cent said they would consider ethical investment in the future. 

Secondly, the barrier to entering the ethical investment market is much lower than it once was. Take, for example, the advent of micro-investing apps and exchange traded funds (ETFs). ETFs are comprised of several shares and assets. They’re bought and sold on the stock exchange, just like individual shares. The difference is you get to buy a bundle of shares in one trade. So rather than buying a single share of one company, you’re buying a very small share of lots of companies or assets. A key benefit is the diversification of ETFs. While one company in your ETF might take a dip in value due to market activities, that doesn’t mean they all will. 

Micro-investing apps allow you to put spare change into your fund of choice. While $5 here or there might not seem like much, over time, as the dollars grow, so too does your ability to build a portfolio. Some of these apps don’t charge fees at all until you reach a certain threshold, meaning you can experiment with little risk to begin with. 

Through this investment type, budding investors are able to achieve broad exposure to ethical investments for a reasonable price. We’ll talk about ETFs and micro-investing in more detail in the coming chapters. 

And third, the sheer volume of people entering the market is giving ethical investment some explosive potential. In Australia, in particular, there’s a growing awareness of the individual consumer’s power to vote with their transactions.

Who’s already ethically investing? 

If you think ethical investing is just for daisy-chain-making, left-wing folks holding signs at climate-change rallies, think again. You don’t have to be an outspoken social media keyboard warrior to be an ethical investor, either; there are plenty of wealthy, silent investors, speaking through those powerful dollar bills of theirs. 

According to a Harvard Business Review article from June 2019, many business leaders and investment fund managers are quietly moving money into ethical spaces and, as a result, this has become seriously big business. After interviewing seventy senior executives at forty-three global investment firms, the article’s authors, Robert G. Eccles and Svetlana Klimenko, found that most of their interviewees were heavily focused on ethical pursuits, not just because it was good for the world, but because it was good for their hip pockets too. 

The article highlights the fact that when the UN-supported Principles for Responsible Investment (PRI) launched in 2006, sixty-three investment companies jumped on board, with a tidy US$6.5 trillion in assets under management. In April 2018, signatories spiked to a figure of 1715 and accounted for US$81.7 trillion in assets under management. 

The authors argue, ‘When it becomes clear that the people who decide whether to buy or sell a company’s stock have internalized ESG [environmental, social and corporate governance] into their calculations, the business leaders will be forced to do the same within their companies.’

And that could have a massive impact on the collective consciousness. 

Gone are the days where big companies get to avoid political and social issues. Businesses are increasingly realising that people’s ethics will have an impact on their perception of the brand. Take Airbnb, for example. It’s not a perfect company as its business model impacts people seeking long-term private rentals, but it is taking action on social issues. In 2017, during Donald Trump’s controversial immigration ban, Airbnb launched a campaign offering free short-term housing to 100,000 refugees over the next five years. They even ran an ad during the Super Bowl – that’s expensive media property – with the message #WeAccept beamed into homes across the United States. 

That said, it doesn’t work if it’s tokenistic. Ethical commitments that companies make have to be genuine, or they risk being called out for jumping on the bandwagon. 

Increasingly, many of us want our purchases and investments to be responsible. Australian Financial Review reporter James Fernyhough pointed out in 2019 that almost half of professionally managed money in Australia is now classified as ‘responsible investment’. He called this ‘a meteoric rise for a sector that was still considered niche five years ago’. 

‘The Responsible Investment Association Australasia (RIAA) now classes 44 per cent – or nearly $1 trillion – of the $2.24 trillion managed by professional investors as “responsible”,’ he added. 

But I suspect the reason that the word ‘responsible’ is in quote marks is because the concept of being responsible can be interpreted in so many ways. A company can be considered responsible if they have a woman on the board, even though the business is mining, which generates significant volumes of fossil fuels. They might pay above award wages but be a massive carbon emitter. They might have a corporate social responsibility philosophy – most big businesses do – but whether they walk the talk is a different matter entirely. 

In short, ‘responsible’ is a really loose term, and it’s up to us to tighten up the concept. Responsible and ethical screening is still murky to say the least, but as more people wake up to the way their money is invested, they’ll inevitably help to refine the screens and call out the frauds. 

That’s where you come in. 

How do I define what’s ethical? 

Before you can even think about ethical investment, you need to decide exactly what your ethics are. Your ethics may not be the same as mine. The morals that influence your choices will likely have been formed as a result of your upbringing, life experiences and, perhaps, political views. 

According to Australia-based not-for-profit The Ethics Centre, you can create your ethical framework based on your values, principles and purpose:

• Values tell us what’s good – they’re the things we strive for, desire and seek to protect.
• Principles tell us what’s right – outlining how we may or may not achieve our values.
• Purpose is your reason for being – it gives life to your values and principles.

I haven’t spent much time thinking about the specifics of what’s morally right or evil since my high school ethics classes. And, if memory serves, I wasn’t particularly engaged in that. Broadly, I know there are things that I see as important for my future and the future of those around me. So I started to think about what my values are and what I feel is ethical and really questioning what I stand for. I’ve confirmed that I don’t value investment in coalmining and that I want to see investment in better solutions for our future. Any solutions. For example, I want to eliminate direct and indirect investment in fossil fuels. But divesting from fossil fuels is not enough, I’d like to see Australia make epic strides towards renewable solutions. We have the know-how and the capacity to do it, so it’s really just a matter of sourcing funding and implementing a strategy to shift out of coal and into renewables.

I’m also particularly interested in businesses that prioritise diversity of their boards – probably because I’m a woman who’s seen talented colleagues walk away from careers because they didn’t see a path to leadership. I also know that women do not have as much super or income as their male counterparts. In fact, the gap is a staggering 28 per cent. According to a report from consultancy KPMG, published in August 2021, men aged between sixty and sixty-four have a median super balance of $204,107, compared to women in the same bracket, who have $146,900. 

Technology that powers cultural change is something I’m interested in too. I know that good tech has the potential to change our lives for the better. 

I’m keen to learn more about companies that are focused on wellbeing, so that might involve green food technology – more sustainable approaches to food production, quality control and distribution, for example. Until recently, I haven’t spent much time thinking about healthcare, but a pandemic tends to change your outlook. Suddenly, scientific research into medicine seems pretty damn important. 

Something that’s crucial to me is aged care and affordable housing. This is personal. I know far too many people who won’t retire with a property portfolio. I’ve spoken to several women who are terrified about what their future holds because they don’t own a home or have a share portfolio to deliver income beyond the pension and their superannuation balance is not enough. It’s a massive problem in Australia and there’s much work to be done as our population ages, so I’ll be on the lookout for companies that are finding compelling solutions to these problems too. 

But as I do my research, I’m coming to realise that my ethical focus should not just be on the industries I like, but also on the way companies conduct themselves. And it’s not until I start moving my money around that I realise how much I value honesty, integrity and innovation.

Your criteria might be different. Perhaps you have a passion for Australian wildlife. Alternatively, you might be interested in sustainable fashion and companies that take a zero-tolerance approach to child labour practices in the making of your garments. It’ll be up to you to look into ventures that speak to you. In doing that, you’ll probably find that you’re really compelled to do something about it. 

That’s part of the joy of ethical investing. It’s not just chucking some cash into shares and watching your returns rise – you get the dual benefit of knowing that the businesses you put your valuable coin into will have better prospects of doing things you actually give a shit about and, in turn, may improve our future. 

How do companies define what’s ethical? 

Unfortunately, there’s no uniform indication of what constitutes ‘ethical’. There’s also no regulation to clarify what ethical investing is as a basic standard. So you need to navigate the marketing.

To give you an idea of how the big superannuation funds and ethical investment firms decide what’s ethical and what’s not, here’s a list of the ways their investments might be screened. It’s still not foolproof, but it’s a start. 

Negative screening

The negative screening process involves putting companies through assessments to find out if they’re invested in things that people broadly deem unethical. If they produce an addictive product or service (tobacco, gambling), they’re unlikely to get over the ethical hurdle. Likewise, if they engage in poor labour practices, they can be struck off the list of potential investment. 

Negative screening is a good place to start when deciding what you will and won’t invest in. If you are staunchly opposed to tobacco, obviously you won’t want your investment portfolio to include a company that makes cigarettes. 

Positive or ‘best-in-class’ screening 

This involves seeking out companies that have good social and ethical values, such as a zero-carbon-emissions policy, a gender-diverse board and exemplary treatment of staff in the production of goods and services. In essence, they turn a profit by doing the right thing. Ideally, they do everything right, but depending on who’s screening, they might only need to meet one or a handful of items in the criteria to make the cut. 

Companies that perform well in a positive screening process often make a tangible difference to environmental or social outcomes. And, in a perfect world, they’re a good investment too. This might include sectors such as healthcare, education and renewable energy. 

Minimum standards or ‘norms-based’ screening 

This approach uses the minimum standard of company, government or international standards. The minimum standards depend on which filter they’re put through. So, for example, they may be subject to assessment based on the Ten Principles of the UN Global Compact. These principles are based, in part, on the Universal Declaration of Human Rights. 

The principles cover topics such as: 

• human rights (non-compliance in human rights abuses) 
• labour (recognition of the right to collective bargaining and elimination of compulsory labour and child labour, elimination of discrimination) 
• the environment (precautionary approaches to environmental concerns, environmental
• responsibility and the development of environmentally friendly technologies)
• anti-corruption.

Sustainability investing

This is a specific environmental approach, and it means actively seeking out funds or investment opportunities in clean-water programs, renewable energy, infrastructure, recycling, waste management and more. 

Environmental, Social and Governance (ESG) investing 

ESG covers environmental, social and governance screening principles. If this is the screen you’re using, you might need to dig a bit to see just how good a company’s governance is. These sweeping general areas make it possible for businesses to claim they’re meeting the ESG criteria when, in fact, it’s a regular business where people are paid the nominated award wages and there’s a recycling bin next to the printer. Perhaps they report on sustainability during their annual general meeting, but potentially there’s little real change being driven. That’s not to say there aren’t companies with a great commitment to ESG, but you need to be comfortable with where they sit on what is a massive spectrum. 

Impact investing 

If you choose impact investing as a key screen, you’re ultimately looking to see physical results from your investment. That might come in the form of improved transport and infrastructure, schools or hospitals. Equally, the impact might be improved social outcomes locally or internationally. Either way, you’ll seek to get a return on investment while hopefully being able to see an actual result.

Watch out for greenwashing 

When it comes to choosing superannuation and shares, you need to be aware of ‘greenwashing’. That’s essentially where a company, super fund or organisation providing you with the opportunity to purchase their products and services, or invest in the business, will claim it’s green when it’s not at all, or not nearly as green as it’s hyped to be. There is no industry regulation. Greenwashing is everywhere – from superannuation and banking to housing and shares – so you have to be really diligent when doing research. 

The term greenwashing, which is also known as ‘green sheen’, was coined by New York environmentalist Jay Westerveld in 1986. He wrote a university essay about a hotel in Fiji that had put a cute little card on the bathroom vanity encouraging people to reuse their fluffy white towels, in an effort to reduce the environmental costs of washing and to minimise ecological damage. He suspected that, given the resort was expanding, with more bungalows under construction, the reduced frequency of towel washing would make little difference, although it created an illusion of care for the brand and, as a result, perhaps increased patronage and profit. ‘It all comes out in the greenwash,’ he wrote in the essay, which was later widely circulated. 

At that time, big corporations were confident they were above any scrutiny of greenwashing practices. Take oil company Chevron. In the mid-1980s, the company made several fancy commercials, played on television and published in newspapers, to highlight its caring corporate citizen ethos. These ads were actually a thinly veiled attempt to justify exploration for oil. In one example, a bear is shown asleep on the land and the voice over explains that Chevron does its work without interrupting the grizzly’s winter hibernation. It’s narrated like a bedtime story: 

People with motors and machinery will explore for oil through deep winter, but before she wakes the people will be gone. The explored land will be replanted so it will soon look as if no one had ever been there. The people sometimes work all through the winter, so nature can have spring all to herself.

So considerate of you, large oil drilling company. 

Even better was oil company DuPont’s 1991 commercial where the voice-over guy claims: ‘Recently DuPont announced that its energy unit Conoco would pioneer the use of new double-hulled oil tankers in order to safeguard the environment.’

At the end of the thirty-second spot, seals clap enthusiastically and a dolphin jumps for joy. 

You couldn’t make this shit up. 

At first, I thought, Well, it was the 1980s and ’90s. But a bit more research shows this is still very much happening. 

In 2019, Nestle USA was faced with a class-action lawsuit after allegedly labelling its products with claims that its cocoa beans were ‘sustainably sourced’. In fact, the plaintiffs argued that the cocoa was coming from farms that used child labour, while also using production processes that polluted waterways and killed wildlife. Despite that, the federal judge ultimately dismissed the lawsuits, saying that while the use of child and slave labour practices was ‘beyond dispute’, the consumers failed to show exactly how the company had deceived them.

Confounding as that judgement is, the lawsuit emphasises that consumers are far more aware than they once were and they’re making noise about greenwashing.

Where do I start? 

If you think the idea of getting into investment is overwhelming, you’re not alone. On a one to ten scale of investment knowledge, where one is a bin chicken digging for shiny coins and ten is a stockbroker in a sharp suit, I am probably a two. And I only give myself the step up from bin chicken because I understand the process of buying a house. 

So, just like you, I’m starting out. I’m sharing what I learn, as I get the info. Here are some of the options I intend to explore: 

Shares and exchange traded funds (ETFs) 

I’ve never bought a share or an ETF in my life. I have no idea how to start a share portfolio. An ETF is a type of security that tracks an index sector, commodity or asset. An index typically measures the performance of a particular sector. So, for example, it might mirror tech, sustainability or health industries. But rather than buying one share in one company, you buy a very small share of many companies, focused on a specific theme. 

In the coming chapters, I’ll highlight the ways in which I’ve slowly been gaining an understanding of ethical shares and ETFs, without investing too much while I’m learning. I know that to buy shares or ETFs, I need to choose what’s called a brokerage platform – that’s where I purchase the items that I want to invest in. I need to understand the fees associated with each option, the pros and cons of using each platform and, importantly for me, the ethical drivers behind the share or the ETF. I quickly learn that ETFs can be trickier to assess when it comes to ethical investment, because I’m not just considering the ethics of one individual company, I need to think about every single company or asset that makes up the contents of the ETF.

Superannuation

To say I have been ambivalent about my superannuation is an understatement. Until a few years ago I had about six super accounts. I’d just open a new account every time I started a new job – whichever provider my employer used – and then forget about it. I rolled it all into one account after someone told me how much money I was losing in fees. It took about two minutes to get this done in my myGov account. I should have done that painfully simple piece of life admin much sooner. 

Many Australians don’t give much thought to their superannuation but the reality is, if you have a super account, you’re an investor. The money you contribute is invested so that your nest egg grows over time. The reason I hadn’t cared about it was because I couldn’t touch it for another couple of decades . . . so, whatever. But, actually, being a bit more proactive could make a big difference down the track. Plus, I don’t even know what my money contributes to. Could be military-grade weapons for all I know. I really should look into that if I’m going to become an ethical investor. 

Banking

A bank is a bank – they’re all the same, right? Wrong. Let’s say you have $5000 in your savings account. The bank makes money from fees and charges along with the interest it earns, which is then lent out to others, who invest that money in other ventures. So your humble savings might be contributing to things that you don’t support. Do you want your money going towards the expansion of coalmines? If you don’t, you might want to do some research into what your bank invests in.

Sustainable housing 

It’s not just the complex world of shares and super that I’ll look into. Property is often the biggest investment many of us will take on. I’d like my next property to at least have some sustainable components. I wonder if it’s possible to build a sustainable home that will deliver long-term returns, both in value and through minimal running costs. 

I hope to buy a shack in a regional town, but as Australia faces the ongoing threat of devastating bushfires thanks to climate change, there are inherent risks. How do I choose a location that makes sense from an investment perspective while also being safe from fire? Is that even a possibility anymore? It’s never been more important to build with fireproof materials. How much will that set me back? If the cost of the build results in overcapitalising, is it worth it? It’s no secret that Australians love property, but it’s getting increasingly difficult for young buyers to obtain. Banks continue to profit, and the construction industry is responsible for considerable carbon emissions. Is it even possible to buy or build ethically? We’ll soon find out.

Ethical admin checklist 

• Establish your ethics. Think about your values and the sectors that are aligned with these values. 
• What is non-negotiable for you? What is acceptable? 
• Consider ethical screens. Is the minimum standard enough for you or do you want investments that are considered ‘best in class’? 
• Understand greenwashing. Just because an investment product is labelled ‘ethical’ doesn’t mean it will be aligned with your ethics. Do your research before committing. 
• Choose your investment. Many of us have compulsory superannuation, but would you also like to start a share portfolio? Think about how much money you have available to invest and take some time to consider how you’d like to invest it. 

This is an extract from The Ethical Investor by Nicole Haddow, published by Nero. The Ethical Investor by Nicole Haddow is out now.