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April 04 newsletter

Welcome to the Shape of Money's April 04 newsletter and our discussion on Ethical and Socially Responsible Investing.

Introduction

For many of us, the most important element of an investment is its return. However, the opportunity also exists to make investments which reflect our personal values. Would those who recycle their newspapers each week be comfortable for an arms manufacturer to use part of your investment as working capital?

Ethical or socially responsible investing (SRI) has developed in recent times as investors seek to marry their personal values with their investment decisions.

The preferred method of seeking out such investments is through managed funds that have been developed for this specific purpose.

Ethical and SRI funds seek to identify companies through several means.

• 'Positive screening' seeks to include companies which are making a positive contribution to the environment through activities, for example, such as recycling.
• 'Negative screening' seeks to exclude companies which operate in industries such as gambling and alcohol.
• 'Best of sector' selects companies which led their particular industry sector in areas such as environmental effects and worker relations.

Potentially, it can get complicated. The key, therefore, is to read the information contained in the investment statement to ensure that you understand the selection basis or methodology employed by the fund.

Returns

It is certainly admirable to colour your investing strategies in green, but will you miss out on some of the investment returns which are, perhaps, your over-arching investing goal?

Empirical studies on SRI suggest that you won't suffer a reduction in return. Philip MacAlister (NZ Herald, 1-8 Sept, 2002, page C28) quoted the results of 21 studies: "12 said it had a positive effect on returns, one said it was negative and the rest said an SRI strategy was neutral". More recently (Sunday Star-Times, 21 Sept, 2003, page D5), Rodger Spiller surveyed "50 academic studies into the relationship between corporate ethics and financial performance", finding that "33 showed a positive relationship and 13 were neutral. Only four showed a negative relationship."

Example Funds

There are number of Australian options to consider, but one New Zealand fund in this area is

• Asteron's Socially Responsible Investment Trust.

Portfolio Structure

Ethical and SRI funds tend to have a bias toward growth companies, as opposed to mature companies. Negatively excluded companies include the mature industries of tobacco, alcohol and gambling, which may provide a defensive and stable earnings stream to a portfolio. In contrast, an SRI fund may include companies that are embracing new technologies in the fields of ecology and power generation. The returns could be higher, but they will also certainly be more volatile.

Costs

As with all specialist funds, there is extra work involved for the fund manager. It shouldn't surprise you, therefore, that the costs charged by a fund manager in this area may be slightly higher than those by a general all-purpose portfolio of the top-50 companies.