Socially Responsible Investing through ETFs

Socially Responsible Investing – sometimes referred to as ‘sustainable investing’ is a fast-growing asset class across the globe, easily accessed via exchange-traded-funds

Caroline Gutman 22 June, 2015 | 12:15AM
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Currency-hedged funds to strategic beta; in the last few years European providers have expanded their range of ETFs considerably. But one less-known area investors may want to consider is socially responsible investing (SRI). What was once a niche market, SRI is now a fast-growing asset class across the globe, which is easily accessible via exchange-traded-funds (ETFs).

What is SRI?

Socially Responsible Investing – sometimes referred to as ‘sustainable investing’ – is the practice of choosing investments based not only on performance but also on ethical, social, environmental and governance criteria. SRI indices provide exposure to companies which strongly adhere to these principles when conducting business.  By definition, these indices will exclude companies whose products have a negative social or environmental impact, such as weapons, alcohol, tobacco and gambling.

The Facts

Socially responsible investing is still unchartered territory for many investors, and there are a number of misnomers. For one, SRI companies should not be confused with charitable organisations. True, some of the SRI companies may have a charity-minded ethos, but they ultimately are profit-seeking structures. Or to put it differently; they are return-generating investment propositions.

Companies with better ethical, environmental, social and governance track records may outperform in the long term financially, while attracting and retaining human talent in the process.

The concept of the economic moat, which originated with Warren Buffett and is a key part of Morningstar’s stock investment philosophy, says that successful long-term investing involves evaluating whether a business will be able to sustain its competitive advantage. Sustainable corporate strategies – ethical , social, environmental and governance – help companies distinguish themselves from the competition.

Low-Cost Investing in SRI via ETFs

ETFs offer a transparent rules-based approach to investing in SRI companies at a fraction of the cost of actively-managed funds. Like a FTSE 100-tracking ETF, SRI ETFs aim to replicate the performance of the underlying index as close as possible.

However, the niche nature of the investment means that SRI ETFs typically are more expensive than their non-SRI counterparts. For example, the UBS MSCI Emerging Markets SRI ETF charges 0.53% while the UBS MSCI Emerging Markets ETF charges 0.45%.

Still, the quality of the underlying holdings could pay off. In fact, SRI indices may outperform standard market indices. For example, over the last three years on an annualised basis, the MSCI Emerging Markets SRI index returned 7.77% versus 6.32% for the MSCI Emerging Markets index.

Which SRI ETF to buy?

As with any ETF, it is important for investors to understand what they are buying into, and this specifically entails a thorough analysis of the benchmark the ETF chooses to track. SRI methodologies differ from one index provider to another. As such, it is worth to closely look at what criteria the index provider uses to select the constituents to ensure they fit in with the investor’s SRI guiding principles.

UBS and, to a lesser extent, iShares offer SRI ETFs which provide exposure to different geographic areas (e.g. Global, Emerging Markets, Europe, UK).  They are all physically replicated ETFs and track indices which screen for companies with strong environmental, social and governance ratings (ESG) relative to their sector peers.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Caroline Gutman  is a passive fund analyst for Morningstar