What, really, is ethical investing?
As an investor, you have the power to ensure that your investments align with your beliefs and principles.
Returns, while critical, are often not the only priority many investors have today. Increasingly, people who are purpose and viewpoint-driven are also focused on ethical investing and finding opportunities to do so without having to sacrifice returns. In its broadest sense, ethical investing means ensuring that your personal values and moral principles factor into the investments you make.
In practice, ethical investing entails focusing on companies that act as responsible corporate citizens and that can encompass a broad range of actions and commitments. Ethical stocks may be those of companies that support environmental sustainability. Or they foster responsible consumerism and have fair labor practices. Ethical companies also largely embrace both cultural and gender-based diversity, so that women, those with diverse gender identities, and people of diverse racial and ethnic backgrounds are well represented and feel respected. These companies’ efforts at inclusiveness may extend not only to their hiring practices, but also to their executive leadership teams and the board of directors that oversees and advises these firms.
The evolution of ethical investing
While it has gained much attention in recent years, ethical investing is not entirely new. Socially responsible investments (SRIs) have been around for decades. In their earliest iterations, these SRIs would simply “negatively screen” by not owning companies in industries people had an objection to, on the basis of a moral, an ethical or a religious view. Historically, the most common exclusions were alcohol, tobacco and firearms companies. Funds that negatively screen are still available, and the possible exclusions have also broadened if investors also do not want to own companies that manufacture weapons systems, for example, or firms that are involved in nuclear energy.
Today, the term “socially responsible investing” is used much more broadly. It has become synonymous with ethical investing as a way to focus on ethical companies and incorporate your moral principles and personal values into your investments. Today’s investment choices also do not simply exclude certain companies. For example: what if a large conglomerate includes a cigarette manufacturer, but their governance practices are highly inclusive and they give back extensively to their community? There are many nuanced options investors can access when it comes to the companies that are aiming to do right by incorporating ethical practices into their business.
Ethical investing vs. ESG
Ethical investing is an umbrella term that encompasses many approaches to investing in companies that are committed to treating their employees and customers well and doing right by their communities, the planet, and society in general.
The term “ESG” was coined in 2005, and interest in ESG investing gradually grew. Today, those initials are often at the forefront of every investment conversation. Looking at companies’ environmental, social and governance practices took hold because it provides a systematic way to evaluate how a company is doing with multiple issues that align with the priorities of ethical investors.
Today, ESG considerations are often fully integrated into Wall Street analysts’ research on companies. Along with their focus on traditional business fundamentals, such as companies’ profitability or competitive positioning, they are evaluating companies’ ESG practices.
On the environmental front, companies may be looking at issues such as a firm’s carbon footprint and whether its business operations support renewable energy. On the social side, they may be evaluating whether companies compensate workers fairly, provide resources for employees with disabilities, or provide safe conditions both for their employees and the consumers of their products. On the governance side, they could be examining whether the companies’ internal controls impose the proper checks and balances on the executive team to ensure they always act in shareholders’ best interests. The diversity of the company’s leadership team and its board of directors are also important governance considerations. Progressive companies will have the significant presence of women and people of diverse backgrounds in their C-suite and on their boards.
It is not just Wall Street research analysts making these ESG assessments. There are now a number of third-party agencies that rate companies for their ESG practices. It is not simply about finding companies that are committing to doing good. Today, it is widely recognized and understood that poor ESG practices present great risks and can greatly impair a company’s long-term success, its stock prices, and the returns it can deliver to its shareholders. It is not only a moral imperative, but also a bottom-line business priority today to have strong ESG practices. Companies that do better often perform better over time. In fact, according to a recent study from New York University’s Stern School of Business, in reviewing over 1,000 studies published between 2015 – 2020, they found a positive relationship between ESG and financial performance.
How to invest ethically
For Investors who want to own ethical stocks, looking for companies with high ESG scores can be a good start. Today, many advisors and portfolio managers make this a simple process for investors because they will only own companies with high ESG ratings. These portfolios start with a broad index of stocks, like the S&P 500®Index, which is the benchmark for U.S. large-cap companies. The portfolio managers then screen out the companies whose ESG rating does not meet a certain threshold, so investors will only own the companies that rate high and have strong environmental, social and governance practices.
In addition to this broad approach, investors can also focus on a particular ethical theme that interests them. For example, they could invest in a portfolio that only owns companies that are fostering clean water and air or an ETF that invests only in companies that have sound diversity practices.
Finding the ethical investing approach that is right for you
Everyone’s personal ethics are different, of course. For example, someone might want to invest in companies that are highly engaged in protecting the environment, while that same person may also be an avid hunter and not object to gun manufacturers. Another person may be ok with a fossil fuels company because they espouse positive corporate governance and are breaking ground when it comes to renewable energy.
Need Help? Discover your financial personality
We find that a good starting point to finding the right ethical investments is learning more about yourself and what approaches to investing deeply motivate you. We do that with a free financial personality assessment that anyone can complete online in just a few minutes. In addition to identifying your financial personality, the assessment will identify investments that align with your approach to ethical investing.