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One of the greatest evolutions in investing over the past decade or so has undoubtedly been the rise in ethical and responsible investment (sorry crypto fans). As people have become more concerned about climate change, the slow erosion of civil liberties and the destruction of everything we hold dear, this has been reflected in where many investors choose to direct their money, and the standards they held companies to.
Today, environmental, social and governance-focused (ESG) investing is a big deal. A 2024 report from the Responsible Investment Association Australasia showed ESG investment in Australia reached $1.6 trillion in 2023, up from $1.3 trillion the previous year.
Much of this demand is being driven by younger generations, and a lot of the change is occurring within super funds, as nearly 90 per cent of Australians expect their super to be invested responsibly and ethically, according to the RIAA. And super funds are taking notice. Juggernaut Australian Super just this week dumped nearly $1 billion in investments it deemed as unethical, including US defence stocks, Raytheon, Lockheed Martin and Northrop Grumman.
What’s the problem?
Ethical investments have a bit of an image problem. In 2022, RIAA reported that the greatest barrier to ESG investing was performance concerns, with 70 per cent of investors worried they’d be worse-off investing ethically. That has since dropped to 45 per cent, but it remains a major worry.
And it’s not entirely unfounded. Over the long term, ethical funds tend to keep up with their peers, and in some cases exceed them, but in the short term, returns can be significantly more variable than other investments.
ESG investing also suffers from various differing opinions and misinformation from companies. What one person considers ethical may not be the same for another, which can leave some investors unsatisfied.
What you can do about it
So if you want to invest ethically, should you? And is it any riskier than “normal” investing?
- Where do I start? Dug Higgins, head of responsible investment at Zenith Investment Partners, sums up ESG investing well by describing it as a “broad church”. There are numerous different ways to invest ethically, such as excluding companies that do not align with your viewpoints (known as negative screening), investing to a theme such as renewable energy or gender equity (thematic investing), along with many others. Start by working out what matters to you and what values you want to prioritise, then look at what investments are available that might align with those. There’s a large range of ETFs that cover all sorts of different ESG areas, so that might be a good place to start. Look at what they invest in, and their performance over time, to see how that matches up against your expectations. Alternatively, one of the easiest ways to invest ethically is by switching your superannuation investment allocation, as many super funds provide several ESG-focused options that, generally, perform quite well.
- What if my values don’t align? Herein lies one of the greatest challenges with ethical investing. What one fund manager or investment product decides is “ethical” might be entirely different to what you consider ethical. For example, Tesla features in the portfolios of many ESG funds because it’s an EV manufacturer, but for those people (read: me) who are not fans of the company’s owner, Elon Musk, it would not pass muster. One person’s “clean” is often another person’s “dirty”, Higgins says, and unless you’re choosing individual companies to invest in, you may have to compromise. “If [your priority is] avoiding certain controversial activities in your investments, you need to accept that results will vary at certain times,” he says. “If performance more in line with the broader market makes you comfortable, maybe choosing strategies that are more mainstream is for you, even if you’re uncomfortable with some of their holdings. Matching a fund’s characteristics to an individual’s preferences can be very tricky. Investors should understand when they might need to embrace compromise.”
- Will I lose money? Glen Hare, co-founder and financial adviser at Fox & Hare, firmly believes that investing ethically doesn’t mean you have to forego performance. However, he notes there is a broad range of ethical investment options – especially in super funds – and some will inevitably perform better than others. It’s important to review your fund’s performance and switch if it’s not meeting your standards, or is significantly underperforming compared to other funds or the broader market. As mentioned, ESG funds tend to show weaker performances over the short term, and Higgins says different ethical investments can “vary wildly” in performance when compared to non-ethical funds, reinforcing the importance of ensuring you regularly review how they measure up. This has been particularly apparent in the past 12 months when energy and defence companies (which are often excluded from ESG funds) have soared. However, over the long term (10-plus years) ethical funds have been shown to match or beat the broader market.
- What else should I look out for? Another common criticism of ethical funds is their fees, which are often higher than other comparable funds. “This is because from the fund’s perspective, there is additional due diligence,” Hare says. “Fund managers aren’t just looking at performance but also if the company they’re investing in is doing what it says it’s going to do [from an ethical standpoint].” Here lies another common issue faced by ethical investing, known as “greenwashing” – where a company or fund mis- or over-represents (read: lies about) how sustainable they really are. Investors should be cautious, but Higgins notes in some cases, it might just come down to how certain things are defined, as different groups use different labels and terminology.
Advice given in this article is general in nature and is not intended to influence readers’ decisions about investing or financial products. It is important to seek professional advice that takes into account your personal circumstances before making any financial decisions.
Dominic Powell is the Money Editor for the Sydney Morning Herald and The Age.Connect via X or email.
