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Gone are the days when ethical investing existed on the periphery of investment management and the debate centred around whether or not environmental, social and governance (ESG) focussed funds could actually perform as well as mainstream funds.
Now, assisted by the (almost) universal acceptance that some form of climate change is real, an ESG and socially responsible approach to investing is much more widely accepted and increasingly demanded by consumers.
In fact, of the total $2.24 trillion professionally managed investment market in Australia in 2018 – which includes funds managed by local investment managers and the funds of some asset owners which manage assets in-house – $980 million is responsibly managed, according to the Responsible Investment Association’s 2019 Australia Benchmark Report. That’s 44% of total professionally managed assets and is an increase of 13% in assets over the course of 2018.
Ethical and effective
Performance numbers for responsible investment funds are also strong.
|Australian share funds (average annual returns)||1 Year||3 Years||5 Years||10 Years|
|Average responsible investment fund (between 17 and 34 funds sampled depending on time period)||-1.24%||5.70%||6.43%||12.39%|
|Morningstar: Australia Fund Equity Large Blend||-5.49%||4.87%||4.42%||7.95%|
|S&P/ASX 300 Total Return||-3.06%||6.65%||5.60%||8.91%|
Source: Responsible Investment Benchmark Report 2019
How is responsible investment defined?
Responsible investing covers a wide variety of definitions, approaches, and strategies. At its core, it is about trying to minimise harm through investing or delivering some kind of social benefit aside from the benefit to the investor.
The Responsible Investment Association Australasia (RIAA) breaks it down into a responsible investment spectrum with seven essential categories.
- ESG Integration: Consideration of ESG factors as part of investment decisions.
- Corporate Engagement/Shareholder Action: Using shareholder power to influence corporate behaviour.
- Negative Screening: Industry sectors or companies excluded/ divested to avoid risk and better align with values.
- Norms-Based Screening: Screening out investments that do not meet minimum standards and including investments that meet defined ESG.
- Positive/Best in Class Screening: Investments that target companies or industries with better ESG performance.
- Sustainability-Themed Investment: Investments that specifically target sustainability themes, for example, clean energy and green property.
- Impact Investing and Community Investing: Investments that target positive social and environmental impact and provide either a market or below market rate.
Australian funds at the forefront
Some of Australian’s superannuation funds have been at the forefront of introducing an ESG integration type approach to all of their investment portfolios.
For example, in 2012 First State Super announced that it would no longer invest in companies involved in the manufacture of tobacco or cigarettes. Other big superannuation funds followed and 15 (including the largest superannuation fund by funds under management – AustralianSuper) have signed the United Nations Tobacco Free finance pledge.
So even if you don’t select the ESG investment option in your super – and many funds do have that option – your superannuation fund may still be utilising a socially aware approach to investing and eschewing all investments in tobacco, and potentially other ‘non-ethical’ sectors, across the board.
Is your super adopting responsible investing?
An indicator of whether or not your superannuation fund is adopting such an approach is whether or not they are a signatory to the United Nations Principles for Responsible Investing (UNPRI) which has approximately 21 Australian superannuation fund signatories. Signatories sign up to the six UNPRI principles listed below.
- We will incorporate ESG issues into investment analysis and decision-making processes.
- We will be active owners and incorporate ESG issues into our ownership policies and practices.
- We will seek appropriate disclosure on ESG issues by the entities in which we invest.
- We will promote acceptance and implementation of the Principles within the investment industry.
- We will work together to enhance our effectiveness in implementing the Principles.
- We will each report on our activities and progress towards implementing the Principles.
Another helpful indicator is if your fund is a member of the Australian Council of Superannuation Investors (ACSI). ACSI members often collaborate to engage with companies to improve ESG practices.
Information on whether or not your super fund is a signatory to the UNPRI or a member of ACSI, along with your fund’s general approach to socially aware investing, is available in your fund’s annual report.
Socially aware SMSFs
But what do you do if you have a self-managed superannuation fund (SMSF)? How can you take a socially aware approach to investing if you are doing it yourself while, of course, still striving for the best retirement outcomes for members?
Many SMSF members have chosen the SMSF route because they like investing and want to invest directly in equities. They may use managed funds for areas difficult to research comprehensively – like international equities – but do not generally have the majority of their assets in managed funds. In March 2019 just 20% of all SMSF assets were in managed investments, including listed and unlisted trusts, according to the most recent Australian Taxation Office statistics.
Therefore, investing in an ESG or SRI managed fund may not be as attractive to a typical SMSF investor, but there are a number of options available for SMSFs who do choose this route and it would arguably be the least time-consuming approach to socially aware investing for the SMSF trustee.
With over hundreds of ethical managed funds available, the RIAA has a useful tool which can help in selecting a fund here. The tool allows you to select issues you are passionate about and want to support, and industries which you want to exclude, for example gambling and human rights abuses.
Alternatively, SMSF trustees could examine the annual reports of the companies (and other security providers) they invest in directly, to determine their ESG and SRI credentials.
What might be well suited for the SMSF investor looking to create a socially aware portfolio, is adding an impact investment option to the mix. It could have the potential to ‘offset’ some of the potential harm caused by a traditional investment portfolio through providing a positive social outcome. Many impact investment options have quite small overall investment capacities and are attracted to sophisticated investors, like SMSF trustees, with sums of $50,000 to $100,000 to invest.
An example of an impact investment is a social benefit bond. Social benefit bonds provide services to the community that can improve social outcomes, which can ultimately result in a reduction in government spending. A social benefit bond could be for a program to keep children out of foster care or one that reduces offenders’ rates of recidivism.
Funds are raised from investors to fund the programs, but governments provide funds to make reward payments (investment returns) to investors if the programs hit agreed upon targets. The government uses the funds it saves from running the programs. For example, a social benefit bond that can reduce the number of children in foster care, means reduced foster carer payments for the government.
SMSF trustees focussed on climate change, and the carbon emissions of their portfolio, also have the option of buying tradable carbon offsets if they wish to offset the greenhouse gas emissions elsewhere in their portfolio. They would just need to buy them from an unrelated third party.