What is responsible investing?

Building wealth for the future is important, but increasingly, people want their investments to make a positive contribution towards issues such as climate change, pollution and human rights. Responsible investing is all about making investment choices that address these matters.

Is responsible investing effective?

Fortunately, there are ways to marry profit with principles, and it’s not a new concept. Decades ago, the original ‘ethical’ investments were launched. These typically excluded investments in companies whose products people found morally wrong. The variety and scope of these investments have expanded rapidly in recent years, with an increasing focus on positive actions taken by companies and an alignment with targets, for instance in respect to climate change, recycling, or social improvement.

There are also lots of labels used to describe these investments – responsible, sustainable, ethical, green, impact and so on. This makes things a little confusing, which is why we have a dedicated section of our website, covering everything from defining the key terms of responsible investment, to providing regular commentary on the major issues shaping the area.

There are also lots of labels used to describe these investments – responsible, sustainable, ethical, green, impact and so on. This makes things a little confusing, which is why we have a dedicated section on how to become a responsible investor, covering everything from defining the key terms to providing regular commentary on the major issues shaping the area.

What are the principles of responsible investment?

Responsible Investing considers social and environmental good as well as a financial return. It is often used as an umbrella term that encompasses various approaches, most of which involve incorporating Environmental, Social and Governance (ESG) factors in an investment process.

But just what is ESG engagement? It encourages responsible corporate behaviour that promotes environmental stewardship, consumer protection, and human rights, usually through long-standing dialogue between investors and companies. ESG typically means considering (and engaging with companies on) key issues such as:

• climate change
• labour management
• corporate governance
• gender diversity
• data security & more

Responsible investing also usually means avoiding businesses involved in areas deemed harmful or unethical such as alcohol, tobacco, gambling, weapons or animal testing. Meanwhile, issues such as energy efficiency, water scarcity, safety, and diversity could be specifically targeted as investment themes.

A clear investment rationale

While various forms of responsible are employed, there is no doubt that the overall movement has become increasingly popular in recent years. As well as aiming to ‘do the right thing’, there are solid investment reasons to invest with these principles in mind. Dubious practices are often ultimately punished by regulators or consumers, while companies providing solutions to sustainability challenges can be capable of strong growth.

The more investors avoid a company's shares the more it can affect the company’s 'cost of capital' to invest, which affects profitability. Most businesses are now aware there is increasing emphasis on transparency and high standards that go beyond the traditional financial variables that most investors have historically focussed on. Ultimately, these affect the extent to which they can attract capital and the rates at which they can borrow, so they have a vested interest in improving.

Other 'real world' effects can be achieved through existing shareholders demanding material progress on environmental targets such as carbon emissions or social factors such as the fair treatment of workers. These 'engagement' techniques are being further developed, especially in support of decarbonising transport and industrial processes.

However it is done, the more people that invest responsibly the greater pressure there is on companies to improve, helping drive the pace of change. We expect this form of investing to have a considerable influence on companies’ actions and on financial returns going forward.

How to invest responsibly

1. Think about why and how you want to invest. Is it for you or a child, and for what purpose is it – retirement or nearer term? This will dictate the type of investment product you use, such as an ISA, Junior ISA or Pension.
2. Consider how much you are going to contribute and how often. Like any other form of investing, you’ll need to think about whether you can invest as a lump sum, or will you invest in a series of lump sums or monthly contributions.
3. How much risk do you want to take? This is usually connected to how long you want to invest for and how much you can afford to contribute. Maximising higher risk assets such as shares should be carried out over longer investing periods, while for shorter time periods (e.g. 5-10 years) you should generally use some lower-risk areas, such as bonds.
4. Find out your options available in terms of socially responsible fund options. If you are using an investment platform like Charles Stanley's Direct Investment Service, you will have plenty of options from different providers. If you are investing via, for instance, a workplace pension then there may be a more limited number available.
5. Weigh up individual investment and fund selections. Selecting individual shares is an option, though this does take more commitment in terms of research and means it’s harder to get diversification, especially when investing small amounts. For most people, getting instant diversification, as well as the expertise of a specialist fund manager is going to be beneficial. However, it’s important to assess whether the values of that manager meet with your own. There are a selection of fund options in the dedicated section of our Preferred List that we consider good quality.

You can find out more about responsible investing, including definitions of the key terms, on the dedicated responsible investing section of our website.

Please note: This article was released prior to SDR and thus the information may not be in line with the Anti-Greenwashing rule but contextually is appropriate for the time it was written.