Ethical Investing: Everything You Need To Know

Wealth

Ethical investing: a fiercely debated topic and growing global investment trend that has piqued the curiosities of those looking for a more world-friendly alternative to traditional investment strategies.

Key Takeaways

  • Investing ethically means choosing investments that match personal or organisational values and avoiding industries or companies that conflict with those values.
  • Ethical investing performance can fluctuate since there is no guarantee of performance.

What is Ethical Investing?

Ethical investing, also known as sustainable investing or socially responsible investing (SRI), has gained popularity in Australia, especially as the resource-saturated share market has forced many potential investors to choose between their investment goals and their ethical values. Investors who want to align their personal values with their investment portfolio can now consider ethical investing as a viable option.

For some, ethical investing might sound like the magic solution to the issue of combining their personal values with their financial goals and investment strategy. But, just like every other investment strategy, ethical investing has both benefits and downsides that can impact your overall investment return, as well as the likelihood of you achieving your financial goals.

As your team of investment experts, we thought we’d break down the topic of ethical investing and give you everything you need to know to decide whether investing ethically is the right choice for you.

What does “Ethical” mean in ethical investing?

When you think of the word ethical, it’s likely that, depending on who you are and your personal moral framework, your definition of what it is changes.  For some, ethical investing is all about not supporting companies that damage the environment, while others only want to invest in companies with ethical manufacturing processes or those selling cruelty-free, sustainable products.

But because the very definition of what is ethical is hard to pin down and subjective, deciding on whether ethical investing is the right option for you will depend on exactly what your definition of ethical is. We believe that the key to a successful investment portfolio is diversification. When your investments are spread across multiple different industries, sectors and countries, you are much better equipped to successfully weather any fluctuations in the share market.

However, through the process of investing ethically, you are essentially restricting the number of assets you’re able to invest in. If what you consider to be ethical has broad parameters, your portfolio is still able to be diversified. But if your definition of what is ethical is very narrow, it stands to reason that your investment portfolio will become concentrated in one area and thus more vulnerable to fluctuations in the market.

If you’re concerned about opening yourself up to unnecessary investment risk but would still like to invest ethically, your financial advisor can help you assess which investment options are viable for you and your particular financial goals and risk tolerance.

What Are Methods of Ethical Investing?

For those of you who are seeking answers on how to invest ethically, there are different methods you can use to make sure that your investments are ethical. 

1. Negative Screening

The first strategy is called “negative screening.” This means that as an investor, you’re avoiding companies that don’t meet your moral and ethical standards. If a company’s actions, like making tobacco, weapons, or gambling, go against what you believe is right, you won’t invest in them. Negative screening is all about identifying and excluding companies that don’t match your values. It’s like saying, “I don’t want to support these kinds of businesses”.

2. Positive Screening

The second approach is called “positive screening.” Positive screening is like looking for the good guys. Instead of just avoiding the bad companies, you actively search for and invest in companies that align with your values. These are the companies that are doing things you believe are right, like promoting environmental sustainability, supporting their employees, or giving back to their communities. With positive screening, your goal is to be a part of the solution. 

3. Impact investing

The last method is called “impact investing.” Impact investing is a way of putting your money to work for a better world. With impact investing, you choose to invest in companies that are on a mission to create a better future for people and the planet. It’s about supporting companies that have big ideas for social and environmental change. For instance, you might put your money into companies that are all about renewable energy instead of those dealing with oil. The key idea is to use your investments as a force for good. You’re aiming to make the world a better place while steering clear of companies that have a negative impact.

Where Do I Find Ethical Investment?

You can start by locating ethical investment opportunities through the Responsible Investment Associations Australasia (RIAA), which provides tools and resources to help individuals find options that align with their values. The products and funds featured have received certification through the RIAA’s Responsible Investment Certification Program, which evaluates whether their investment intentions and processes align with their responsible investment commitments, as indicated on the website.

When choosing your investments through the RIAA website, you have the power to pick investments that truly reflect your values. It’s like crafting a portfolio that’s a perfect match for what you believe in. You can choose to support areas that matter to you, like renewable energy, gender equality, or education. On the flip side, if there are things you’d rather not be a part of, you can exclude them from your investments. So, if you’re passionate about animal welfare, want to stay away from nuclear power, or prefer not to invest in alcohol and tobacco, you have that option. It’s all about tailoring your investments to your heart’s content, ensuring that your money is working in harmony with your ethical values.

If you’re looking to invest your money ethically, it’s also a good idea to talk to a financial adviser who knows their stuff and can make a good recommendation.

What is Greenwashing?

In the world of ethical investing, greenwashing is a major concern. According to the RIAA, greenwashing is when a company promotes and claims that its organisation is more socially or environmentally responsible than it is actioned on.

For example, a company may announce on their social media that they intend to address environmental issues, but they do not have a clear strategy for how and when the plan will be implemented. Some may also spend more marketing funds and promise to uphold ethical principles but fail to back up their claims with tangible evidence. Overstate their positive environmental effects in marketing materials. Advertise products as eco-friendly, but source raw materials from unsustainable suppliers.

Investing ethically is one of the great ways to ensure that your money is being used for good. It can also be financially rewarding if you find the right investments for your portfolio. With that said, it’s important to remember to ask financial advisors and fund managers for assistance.

How Popular Are Ethical Super Funds?

Ethical super funds are a popular path for Australians who want to start investing responsibly. These funds are designed to support companies that uphold ethical principles and champion social responsibility. The demand for ethical investments is increasing as more investors become concerned about the potential risks of traditional investments, such as environmental damage or human rights violations. Look for any holdings related and those connected to the RIAA. This will help you assess whether your investments align with your ethical values.

The Pros of Ethical Investing

While some proponents of more traditional investment strategies may have you believe that the cons of ethical investing far outweigh the pros, there are some definite benefits to ethical investing. These include:

A Lighter Conscience

It may seem like an obvious point, but one of the main benefits of investing ethically is the peace of mind it may bring you to know that you’re not inadvertently supporting a business or industry in your financial world that you oppose in other aspects of your life. While you may be sacrificing a few of the other benefits that those of your peers with non-ethical investment portfolios are able to access, such as the potential for larger returns and access to a greater investment diversity, you do gain complete ethical peace of mind.

Think of it like this:

When buying free-range eggs, opting for fair trade coffee or switching to green energy, you don’t expect a discount over the alternatives. Instead, you make the changes because you’re seeking to have a more positive impact on the world around you. An ethical investment portfolio works the same way; expect to potentially give up a little performance or pay slightly higher fees but rest easy knowing that your investment portfolio is aligned with your values.

Supporting Companies You Respect

When purchasing a company’s shares, you are – at the crux of it – entering into a partnership with that company. You offer financial support, in the form of the shares purchased, and in return, the company works to provide you with a return on your investment through whatever it is that they do best.

When you choose to invest in an ethical company, you are giving them the support they need to continue doing the activities or selling the products that interested you in investing in them in the first place.

While donating or purchasing said company’s products may be a more direct way to support them, there are only so many times the everyday family may be able to afford this. By purchasing shares, you’re ensuring that you continue to work towards achieving your financial goals while simultaneously supporting the work of companies you support ethically.

The Cons of Ethical Investing

We touched on a few of the downsides of ethical investing earlier, but there are a number of cons of ethical investing that require consideration before deciding on whether this strategy is the right one for you. These cons include:

Higher Fees

Just like organic vegetables or cruelty-free beauty products, ethical investment funds often charge a higher fee percentage than their non-ethical counterparts. It pays to keep a close eye on these fees before deciding on which funds or companies to invest in, as they can quickly eat into your investment returns.

In fact, several large, well-known ethical brands charge up to 2.5% for ethical investment. When you add the fees which some financial advisors charge on top, you’re already sacrificing a considerable percentage of your investment return every year before you even begin. Luckily not every financial planning firm will charge an investment fee – including My Wealth Solutions – but it’s still important to consider this before making any investment decisions.

Then, when you consider that there’s a chance that your ethical investment portfolio may perform less well than a non-ethical portfolio – due to the restricted nature of the investments inside an ethical investment portfolio – these fees may make the difference between you achieving your financial goals in the timeline you’d like or not.

Just as you would with a non-ethical investment fund, make sure to triple-check every asset you’re thinking of investing in with your financial advisor to ensure that you’re not going to be taken by surprise by any hidden fees.

The Risk of Lower Performance

When comparing ethical investing to more traditional investment strategies, one of the first downsides that make the average investor worried about investing ethically is the potential for lower performance, and thus lower returns, than their non-ethical counterparts. Since, when investing ethically, you are restricting the amount of assets and industries you’re able to invest in, there’s a chance that if one of these sectors experiences a slow year, your returns will mirror that lack of growth.

But, don’t worry, choosing to invest ethically doesn’t automatically mean that your investment portfolio will perform lower than a non-ethical portfolio. Ethical funds can perform better over the long term, especially if your definition of what is ethical is quite broad and you only cut out a few sectors as a result.

However, if you’re thinking of investing in ethical funds with the idea of outperforming the rest of the market – including non-ethical funds – then it is likely that ethical investing is not the right investment strategy for you. The chance of outperforming the market in any investment strategy is very rare, and the pursuit of achieving it can open you up to unnecessary investment risk. That’s why we believe that the right approach to investing ensures you minimise the risk to your portfolio by diversifying your assets as much as you can.

An investment advisor can work with you to ensure that your investment portfolio is ethical while also making sure that it is suited to your particular financial goals and risk tolerance.

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Is Ethical Investing Worth it?

The answer is…it depends!

Whether investing ethically is the right strategy for you will depend on your particular financial circumstances, goals and timeline.

For those who are happy to sacrifice a little performance and potentially pay more in fees than non-ethical investment funds, ethical investing could be the right solution to match your investment portfolio with your personal ethics. But, for those who may have a shorter investment timeline and thus need assets that are more likely to produce higher returns, ethical investing may not be the right option for you.

However, even if you decide to build an investment portfolio that isn’t entirely ethical, there are still ways you can use this portfolio to support the work of those companies and industries that you care about. For example, you could structure your budget in a way that dedicates a portion of your investment returns to donating to those companies or causes you support. This way, while you’re not investing directly in them, you’re still able to support the companies you care about.  In fact, some would argue that donating provides a more direct and more meaningful method of supporting the causes that are important to you.

It is important to note that ethical investing does not guarantee financial returns. However, many studies have shown that ethical investments can perform just as well as traditional investments, or even better. If you are interested in ethical investing, there are a few things you can do to get started:

  • Identify your values: What are the most important ethical issues to you? This will help you to narrow down your investment options.
  • Do your research: Learn about the different ethical investment options available and the companies that offer them.

Still worried about whether investing ethically is the right strategy for your particular financial needs? Don’t worry, we can help.

Our team of expert financial advisors is here to help you assess your investment options, whether ethical or not, and decide which strategy is right for you and your unique financial circumstances and goals.

All you have to do to get started is let us know how we can help.

Let Us Know How We Can Help Today!

Guy Freeman - Managing Director

As a founding partner of My Wealth Solutions, Guy has a wide range of experience in all facets of finance and is passionate about providing practical advice, guidance and assistance. Guy has around 20 years of experience in holistic financial planning and wealth management, and has founded several of his own financial services businesses.

His qualifications include Diploma of Financial Planning, Advanced Diploma in Financial Planning, Self Managed Super Fund accreditation and a Bachelor of Biomedical Science.

Read more of Guy Freeman articles

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