A new fad in investment decisions is making waves in the financial services industry. So-called ethical investments, or the act of solely investing in companies that have ethical standards the investor approves of, is the new action campaigned by those seeking social change. The problem is, no matter how you dress it up, ethical investments still have the negative financial repercussions as divestment.
Board members of pension funds and university endowments have a fiduciary responsibility to their respective fund and its benefactors. They are required to ensure that the fund continues to grow and provide positive returns for many years to come. But by partaking in ethical investments, the fund runs the risk of lowering its return on investments since it is actively choosing to ignore options that have proven to be strong and secure.
Bloomberg recently reported on this development arguing that some of the 30 biggest environmental or social governance (ESG) funds in the world are investing in companies that may not be “ethical.” However, even though Bloomberg believes that the explosion of funds that follow the ESG guidelines is due to the loose definition of ethical investment, the reality is that this should not be an issue in regards to funds that have a responsibility to outside benefactors.
Deciding to partake in ethical investments is a personal decision based on one’s opinion on a company’s ethics. Bloomberg is correct that there is no agreed upon definition of what an ethical fund should be. One should assume that choosing investments based on ethics is a personal opinion since there are no straightforward guidelines. Board members who are in charge of state and local pensions or university endowments should not be making decisions that could be in disagreement with a benefactor’s opinion, instead they should be making investment decisions based on factual information proven to have positive results.
If an investment holder – or a pension fund or endowment – is so intent on seeking change then they should work from the inside as activist shareholders. As Greg Elders, an analyst at Bloomberg Intelligence in London said, “There’s not a simple label you can slap on it to solve the problem.” By working with the company through strategic engagement, investors can ensure their voices are heard, while holding businesses accountable without threatening the return on investments to the fund.
No matter which way you try and spin it, ethical investments is just another form of social activism, like divestment, that has the potential to harm portfolios. Board members must remember their primary responsibility to their benefactors and should not make decisions based on personal opinions, but rather on factual information that ensures a diversified and secure fund.