How the ethical investing market has developed

Nick Moules: Wayne, thanks for joining me. When you think back to when you guys started, what would you describe as the biggest changes you’ve seen over that period of time?

Wayne Bishop: When we started ethical investing in the early 2000s, it was considered a fringe activity. It was considered inferior to “real investing”. It was in the domain of negative screens, i.e. we will not invest in this or that rather than positive investing i.e. we want to invest in this because it is doing good as it was an immature market. For example, if you go back to the early 2000s and consider wind turbines, you could maybe power a few black and white televisions and it was incredibly expensive, while offshore wind was completely unfeasible. Now offshore wind is £39 per megawatt hour, so comparable with non-green electricity and it’s now a mature sector.

We’ve seen a growth in interest in our market, partly from investors but also because the industries they want to invest in have become very mature, quite boring and very normal companies and therefore a lot more investible to mainstream investors.

NM: Over the last few years we’ve seen a growth in terms like SRI, ESG, impact investing. You guys describe yourselves as ethical investors. How would you describe what you do?

WB: Ethical is an old word and a number of times we’ve asked ourselves whether it is still the right word but we always come back to the same conclusion: ethical means you have a second screen. In other words, standard investment criteria are still there, how long you’re going to invest for, what you’re looking to achieve etc and ethical overlays a certain number of moral decisions.

We consider ethical to be the umbrella term and within that you have the other terms you’ve mentioned and that comprises what is known as the spectrum of capital. At one end we have responsible investing, which has one of the lightest screen approaches, so only the most evil of companies (from an ethical perspective) will be excluded such as tobacco and armament companies and we may only include the better fossil fuel companies. We call this the light green end of the market.

You then have socially responsible investing (SRI) and ethical social and governance (ESG) and they will add in a little bit more of a screen. They will say they’re looking for how green the business is, what their conduct is like and how they incorporate those principles into what they do. That’s the middle ground, if you like.

Then we move into positive investing, where we want to invest in things that ‘do good’ and at the other end, impact investing is where fund managers are looking to specifically target the seventeen United Nations sustainable development goals.

We specialise in covering that whole umbrella.

NM: Okay, so as a consumer, I’ve noticed an awareness of the factors you’ve described increasing in society. For Wren Sterling, we’ve been looking at this for a couple of years now and that neatly coincided with David Attenborough’s plastic documentary, which was huge and really took it mainstream. Is there a moment for you that really turned the dial and created a peak in interest in ethical investing?

WB: Over the last 3-4 years we’ve seen a real rise in interest and I put that down to three factors but you’re right, the Attenborough film changed people’s attitudes towards plastic overnight.

Number one, I think it’s generational change. By this I don’t mean the millennials, I actually mean Generation X, the people who are in their early 50s down to late 30s and these people have the economic power, i.e. they’re inheriting money, earning good money, their children might have moved out and they could be saving money there. Like me, they grew up with Sting in the Rainforest, anti-apartheid movements and they were worried about the ozone layer. These were important issues to them and they’re now pushing the dial. Their children are the Gretas of this world who are passionate about climate change, so the parents have the means to influence what their children care about.

Secondly, we can see that the market is a lot more mature and investible, so it’s a bit of a perfect storm. Thirdly, the good performance record that is starting to emerge. For me, this is the big moment for ethical investing – I can see this sector rising from 2-3% of global assets under management (AUM) to 10-20% of global AUM without the overall AUM increasing.

NM: You mentioned that there’s more performance data available in the market. How important do you think data is in order to keep convincing people to look at ethical investing?

WB: I think it’s really helping. Back in 2002 you might have been considered the weirdo in the room and this was considered to be a fashion-led investment. Increasingly the data is showing that ESG investing is outperforming, particularly in the last five years. Even in 2020 to date with the market dropping, we’re seeing something like a one per cent over-performance and this is happening for a number of reasons.

It would be nice to say that ethical companies are better companies and will perform better – and there is some truth to that – but one of the biggest factors is that ESG funds tend to be underweight in sectors such as mining, oil and gas and other commodities. These tend to add volatility in the market. For the last five years these have tended to weigh performance down rather than driving performance. Of course, if they shot up, we might see some of the less ethical funds do well again – but I don’t necessarily see that being the case in the long term.

NM: Wayne, can you think of an example where investor behaviour has changed the world or a particular company and how that fed through to ethical investing

WB: Yes, going back to the start of the century, Peacocks (the high street clothes manufacturer) were put under pressure to make sure they had ethical practices in how they source their clothes. They listened and became an ethical business and were renowned for having high ethical standards.

I have to say, I’m a little bit sceptical about some of the (investor) engagement arguments and although there are examples of investors changing things, there are other factors. Think about boardroom pay and a few years ago there was a victory for shareholders, including King and Shaxson, against Andrew Moss at Aviva. However, there were other cases where shareholders were voting against pay increases and boards carried on regardless, so I think the impact of investors taking action can be limited.

I do see examples where ethical companies make a difference and I will use the example of Café Direct. It was a pioneer in fair trade. When they started fair trade was not considered financially viable but they successfully marketed their products and Café Direct went on to be stocked on supermarket shelves. That started a trend and other companies went on to copy them, not all to the same extent as Café Direct but you saw supermarket own brands go fair trade and eventually that crowded out Café Direct, but that is an example of a company making a change that nobody thought was possible and seeing their business profit as a result.

NM: So as an investor, if someone invests through King and Shaxson, how can they be assured that the companies that you invest in conform to your ethical standards?

WB: Our investment process is based on two things; good sound financial investments and good sound ethical investments. Our ethical process starts with the basic financials and looking at exactly the same thing as everyone else. What is the asset allocation, how much are we putting at risk in equity and bonds etc. Are the companies large or small, geographically diversified, product diversified – we look at all those things and more.

When we look at a company in detail we will do a quantitative ethical screen and a qualitative ethical screen. The quantitative side is taking the hard data from data providers. It’s an 80 page report that takes us through all the ESG profile and scores for a company , all the controversies they’re involved in and we will look through that hard data. This includes things like their carbon footprint, water stress, gender pay gap, any striking and social issues, board attendance, bad shareholders – all of those kind of things and we look at that very carefully.

Then, the qualitative side answers questions like ‘is it still want investors want?’ because a lot of companies can still get a good ESG score and be doing something bad. We don’t want to shoehorn those companies in and say they’re reasonably ethical because we don’t believe that is what our investors want.

NM: There seems to be a consensus building towards companies operating in the right way. At what point do you think all investing will become ethical to some degree?

WB: I think there’s going to be needle shift where ethical standards are going to rise and we will see companies behave much more responsibly towards the environment for example. We’re starting to see that in America, some of the promises people are making about changing the way capitalism works because I think society expects that. Companies will have to consider more than just the shareholder they will have to consider other factors. Because the data is out there now, it’s very tough for companies to hide bad tax practices or bad governance practices.

There will be a general improvement across the board but I do think there will be a temptation for people to tick boxes and do things like having token women on the board. We like to see companies who are also genuine in enabling all staff to develop.

NM: So in a sense it’s down to the ethical investment managers to keep changing the way you analyse companies to keep them on their toes and prevent box-ticking?

WB: We still like to know that the companies are genuine about what they do. This applies to the fund managers we work with too – we want to know that they’re passionate about what they do. Importantly, we’re not going to be taken in by greenwash.

Every company produces a social governance report and they all look the same if I’m honest and of course they say good things but we want to know if they’re out there doing good for the world and not just for themselves so it means we have to look a lot deeper and stay on the pulse because things change and fashions change.

You mentioned David Attenborough earlier and he changed things overnight. We saw groups who had been heavy users of plastics, like supermarkets, come out and say how they were going to deal with it. The more ethical players came out and said they were going to do it faster and cut deeper and we’re going to get plastics out of the system. It’s easy to blame them but in the 1980s, plastic solved a lot of problems and it’s only recently that we’ve come to understand the damage it is causing. However, it’s how the companies react that tells us a lot about them and whether they can be considered an ethical company and potentially right for King and Shaxson.