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Magazine Issues » October 2007

SRI: A question of ethics

There is a widespread belief, especially on the institutional side, that SRI funds don’t do as well as conventional equity products. But with greater awareness of climate change, attitudes are changing, writes Angelique Ruzicka

07_10_sri.jpgIt is now easier to convince a retail investor to invest in an ethical fund than ever before. Newspaper headlines are constantly screaming about climate change and how it affects the Earth. As a result the public has become more acutely aware that, not only should they do something about the environment in their day-to-day lives, they should ensure that their investments are ‘green’.

Rory Sullivan, head of investment responsibility at Insight Investment, says retail investors actively enquire about socially responsible investment (SRI) funds. “In the retail space you would generally find that people who want to invest in ethical funds start off with that as their starting premise. They will look at the internet or speak to their investment advisor and he will recommend some screened funds or environmental funds so it its more straightforward.”

Institutional investors, however, are a harder bunch to convince, though. Traditionally, they have shunned ethical investment funds, either deeming them too high risk or believing that they underperform compared to conventional funds.  So while there has been interest, it has been mediocre. According to the Investment Management Association (IMA), ethical funds under management in Q2 for this year in the UK have reached £5.6bn (e8bn). “Screened funds, such as those that exclude investing in tobacco for instance, have been traditionally seen as high risk and seen as directly in conflict with pensions funds fiduciary duties. The theory institutional investors have is that that if they screen companies out then they can’t maximise returns. Some think that they may also end up investing in small caps which may not be what they want to do,” explains Sullivan.

The belief that SRI funds don’t do as well as conventional equity funds is a myth, says Sullivan. “Literature shows that ethical funds don’t systematically underperform or dramatically overperform other funds. So even though pension funds have been concerned the performance of these funds has been fine historically.”

The views about SRI are gradually changing thanks to the awareness generated by climate change.

More pension funds have also increased their exposure to SRI funds. The BT pension fund and the University Superannuation Scheme have stepped forward with explicit SRI policies. But there is still a lot of work to do before

SRI becomes part of the mainstream and investment management companies will have their hands full in marketing these strategies and creating more awareness.

The answer to what to do about the marketing and packaging of SRI funds is not very clear cut. Countries in Europe have different views about how far and how much they are willing to commit their portfolio to ‘green’ funds and the type of funds they wish to invest in. “In Europe, negative screening is seen as a standard part of many pension funds investment process. A number of Dutch funds have made announcements that they are not investing in companies that manufacture cluster bombs. So in Europe investing in a basic mix of screens that don’t invest in tobacco or weapons, for instance, is very common. But the screens tend to be fairly basic. In the UK screened funds, unless they have a particular environmental dimension or stellar performance, are still regarded with some scepticism, explains Sullivan. 

How long it will take for the broad SRI market to become truly mainstream is hard to tell. According to Eurosif  (European Social Investment Forum), a pan-European group whose mission is to address sustainability through financial markets, it comes down to public awareness, the strength of the regulatory context, and the central issue of returns. “There is potential for greater interest and it’s essential that performance is good. For screened funds it is difficult, as pension funds are still warned off by their lawyers. But the evidence is actually less conclusive than what the legal arguments would indicate – some SRI screened funds perform very well. I think it’s an ongoing and evolving discussion,” says Sullivan.

© fe October 2007