First do no harm: How to be a responsible investor

There is a rising global movement towards responsible investing, but how can new KiwiSavers know how to invest without causing harm? Rebecca Stevenson caught up with Kiwi Wealth’s Steffan Berridge to discuss the ins and outs of ethical investing.

 

First things first. What is responsible investing? And why should anyone care about it?

Many Kiwis are aware of issues such as global warming, wars and health issues caused by products such as tobacco. As investors, many Kiwis don’t want to see their money invested in these areas, and over the past few years this awareness has grown. Responsible investing is all about taking Environment, Social and Governance (ESG) issues into account when investing. This might involve not investing in – or excluding – companies or sectors with particularly anti-social products or that behave in a certain way, but more importantly adding value to investments by selecting more sustainable companies as we think these tend to outperform in the long run. It’s also possible for investors to be active shareholders, using their voting rights to lobby companies to influence them to operate more responsibly and sustainably.

If these are issues that are important to you, then this can influence how you want your money invested – and who you select to manage your investments.

Ethical investing, socially responsible investing and green investing are also talked about. Is there a difference? And how can I tell which investments/funds fall into these categories?

There are a lot of different flavours of responsible investing, including those you’ve listed. As to how they differ, often they focus on specific areas of sensitivity or helping achieve specific outcomes. Typically, they tend to focus on restricting investments – either towards a certain theme or away from certain themes.   

Ethical investing tends to exclude companies producing products that are against a certain ethic (such as armaments, gambling or contraception), while Socially Responsible Investing (SRI) tends to be about focusing on companies that achieve strong ESG ratings, and of the three you’ve mentioned we think this is the only one with a strong investment case. Green investing tends to be about focusing investments on positive environmental outcomes, such as renewable energy.

How does one tell which investments fall into these categories? Usually the fund is appropriately labelled, but to be sure check the holdings and responsible investment policy to see if it matches your expectations. Some investment funds are certified with third parties such as the Responsible Investment Association Australasia, which has a classification system they provide investors to look at which areas investment managers are investing in.

How do funds work out which investments are responsible? I get that bombs and armaments are clearly not ideal, but other categories (like genetically modified organisms, or nuclear power for example) seem murkier?

Investment funds are guided by their policies and processes, which typically also includes a responsible investment policy. For investors, looking at these policies can help understand how investments are assessed. Most investment funds have an exclusion list – such as cluster bombs or tobacco – but often these can be difficult to define. For instance, supermarkets may sell tobacco products although they don’t produce them, and an aerospace company might adapt a plane to deploy cluster bombs even though they don’t produce the bombs.  

Managers need to operate with a policy that has some specific rules, but also a philosophy so a “smell test” can be applied to new investments. For instance, at Kiwi Wealth we define some more problematic industries as “areas of sensitivity”, which means we can still invest but require a higher bar.

Let’s be honest; I don’t have much money. How does what I do make any difference?

If you don’t have much money, that doesn’t mean you can’t invest – or that your investment won’t make a difference  It’s important to remember that just like an election, investing is essentially a democracy of shareholders. Your shares give you voting rights which are exercised by your investment manager. If you like a company and the way it behaves, you might want to invest in them. Similarly, if you don’t like a company, then you could either refuse to invest, or you could invest and use your votes to influence a company and its direction. We think the voting strategy is likely to have more impact than the exclusion strategy. Everyone can do their bit, just like voting in an election.

If I choose responsible investments, does this mean my returns will be lower? Or that fees will be higher?

Investing responsibly doesn’t necessarily mean receiving lower returns or paying higher fees, but this can and does vary, and depends on the manager and what responsible investing practices have been adopted. If an investment manager uses a small exclusion list, the impact on performance is likely to be small, but we think a large exclusion list or a lack of consideration for ESG issues in the investment process is likely to have an impact on returns. Fees might be higher if you have very specific demands that the investment manager needs to cater for, but we don’t think fees should be affected much if you’ve got similar concerns to the people around you and fund manager is listening.

There’s a train of thought that advocates investors pressure companies to change practices rather than simply not investing with them at all. But shouldn’t we just take our money elsewhere?

Investing can be complex, with many factors to consider. For investors, the impact of taking your money elsewhere can make a company’s shares a little cheaper as you sell or refuse to buy – and if everyone’s refusing to invest this is a problem for the company. However, if other investors are prepared to hold the shares, they will buy them cheap and the company will be no worse off. If you want to use your investment as a way of influencing behaviour, not having a shareholding means you can’t influence that company through your shareholder votes – you lose any leverage or opportunity to influence.

Investors need to ask themselves: if a company’s doing something bad, is it more “responsible” to own the shares and vote based on their conscience or beliefs, or to walk away and leave the voting to someone else?  If investors are passionate about an issue, we think they’re more likely to get a result by owning shares in companies that need to do better, and using their votes as leverage. So in summary, we think it’s better to invest and vote for change rather than to avoid investing.

It’s also worth highlighting that in share markets, almost all shares traded are bought from other investors that already own the shares: the company itself usually doesn’t get any money when you buy your shares. This is a common misconception with investors.

How widespread is responsible investing? Is this a real change, or just window dressing?

Responsible investing is increasingly widespread. A 2016 report from Global Sustainable Investment Alliance shows about 50% of all assets under management in Europe, Australia and New Zealand are responsibly invested, while this sits at 20% in the United States; adoption of responsible investing in Asia is only just beginning.

Investing often reflects the desires, issues and beliefs that are felt in widespread society – after all, without investors, investing might not exist. As society becomes sensitive to issues such as global warming, wars and health issues, this causes them – and their investment managers – to consider which sectors they might be investing in and which companies to influence. This trend has always existed and, in the case of responsible investing, appears to be a real change that will be around for a while. Investors do need to remember, though, that they’re investing in order to get a return on their money as well, so investment managers have to juggle investing responsibly with their fiduciary responsibilities with their clients’ money.

This is not a new movement globally. What’s been happening in a New Zealand context?

As an investment approach, responsible investing has been around for many years, particularly in Europe. While many Kiwi investment managers have had responsible investment policies for many years, responsible investing has really gotten on to investors’ radars in the past 12-to-18 months, largely driven by stories by Radio New Zealand and the NZ Herald on KiwiSaver funds potentially being indirectly invested in industries such as cluster munitions and tobacco. On the back of these stories, many investment managers – and KiwiSaver scheme providers in particular – reviewed their investment policies and strategies, and many organisations now offer funds which are responsibly invested. According to the Responsible Investment Association Australasia, investments in responsibly invested assets in New Zealand have grown 26 times in the past 12 months.

Steffan Berridge is senior quantitative strategist and responsible investment specialist for Kiwi Wealth.


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