Abu Dhabi, UAESunday 15 December 2019

How to invest in the planet’s future

Ethical funds can be a way to help the environment and still make money

The National
The National

The planet is heating up. The Arctic is melting. July is on course to be the hottest month ever measured on Earth, according to climate scientists. Extreme weather is becoming the norm.

Climate change looks like an insoluble problem right now, but investors should be asking themselves this question: how can I make money from it?

This is not as cynical as it sounds. If we are going to slow or reverse climate change, businesses have to help and savers can do their bit by investing in the new green economy. Renewable energy, battery-charging technology, carbon capture, electric vehicles and even plant-based burger patties can help make the world well again, and with luck might make investors richer too.

Despite growing concern over climate change and other problems such as plastic pollution, ethical investing still hasn’t hit the mainstream. For example, in the UK, ethical funds make up less than 2 per cent of total investments.

But Kay Van-Petersen, global macro strategist at Denmark's Saxo Bank, says attitudes are changing and sustainable investing is now one of the hottest long-term investment trends, particularly among younger investors, so-called Millennials and Generation Z.

Mr Van Petersen says there is a growing body of research showing that investing does not have to be a trade-off between doing something good and sacrificing returns.

To take one example, last year UK investment platform Hargreaves Lansdown found that the 11 ethical funds with a 10-year track record delivered a total return of 125.2 per cent, only slightly lagging the average 134.4 per cent return from UK All Companies funds.

Comparisons are tricky and performance can be cyclical. Ethical funds tend to focus on small and medium-sized companies, which find it easier to be cleaner and greener than sprawling multinationals, but will underperform when the big-caps swing into favour. This typically happens during recessions, as large diversified global businesses are better able to withstand an economic downturn than smaller companies. Smaller companies can also struggle when energy prices are rising, whereas oil and gas companies do well.

What is 'ethical investing'?

Another challenge facing investors is that there is no single agreed definition of what constitutes an ethical investment. Some fund managers take a positive approach and actively target, say, renewable energy stocks, while others invest more generally but screen out environmental offenders such as oil and mining companies.

Investing with a clean conscience is not new as such, and has a proud history. The first ethical investment fund, the US-based Pax World Fund, started almost 50 years ago in 1971, while the UK followed in 1984 with the Friends Provident Stewardship Fund.

Ethically concerned Sharia-compliant investment funds also have a long history, first appearing in Malaysia in the 1960s. The sector is growing as it targets Muslims who want to invest in line with their religious beliefs.

Today the sector goes by many different names, including ethical investing, sustainable investing, socially responsible investing (SRI) and more recently, ethical and social governance (ESG) investing.

Mr Van Petersen of Saxo Bank says investors need to ensure any fund matches their personal concerns. “Always check the underlying assets to be sure the basket of companies reflects the trend that you want to invest in,” he says.

As with any investment, Mr Van Petersen says it is important to understand the risks. “Just because something is good for the environment, doesn't mean it couldn’t drop significantly in value and you could lose a lot of money.”

What socially responsible funds should I invest in?

While you may want to save the planet, you still need to rely on your investments for a comfortable retirement. Buying individual stocks is always dangerous but particularly so in innovative sectors as start-ups have a high failure rate. You can, however, spread the risk with a mutual fund or low-cost passive exchange traded fund (ETF), giving you access to different companies, themes and regions.

Vijay Valecha, chief investment officer at Century Financial in Dubai, says there are now hundreds of socially responsible ETFs to choose from.

His tips include iShares MSCI KLD 400 Social ETF (DSI), which invests in US large cap stocks and is up an impressive 127 per cent over five years, according to TrustNet.com. The iShares MSCI USA ESG Select ETF (SUSA), which targets large and mid-cap stocks that have been screened for positive environmental, social and governance characteristics, grew a similar percentage.

Keep in mind, though, that past performance is no guide to the future, and these two funds have benefited from the longest US stock market bull run in history.

Mr Valecha also tips the iShares MSCI Global Impact ETF (SDG), which invests in companies that address the United Nation’s Sustainable Development Goals, such as education or climate change. It is up a solid but unspectacular 8.95 per cent over three years, broadly in line with his benchmark.

ESG investing could outperform over the longer term, as more people embrace ethical and sustainable practices, Mr Valecha says. “For example, internal combustion engines are making way for electric engines and coal power plants are getting replaced by solar panels.”

Like any technological revolution, from cars to the internet, there will be failures along the way. As an example, the booming German solar power sector was largely wiped out by cheap imports from China, although it is planning a comeback.

Oliver Smith, portfolio manager at investment platform IG in Dubai, tips iShares MSCI EM IMI ESG Screened (SEDM), launched last October, an emerging markets fund that screens out tobacco, firearms and munitions firms.

The recently launched iShares MSCI World ESG Screened (SDWD) applies filters to the MSCI World index, Mr Oliver says. “Over the longer term, returns from these two ETFs should not deviate too much from traditional indices.”

Funds actively targeting social and environmental companies can be riskier but he tips the newly launched L&G Clean Water ETF (GLUG), as well as iShares Global Clean Energy ETF (INRG), launched in 2007, which has grown 48 per cent over five years.

In the long run, investors should not have to give up performance to invest with an ESG tilt, Mr Oliver says. “However, the more you deviate from a cross-the-market approach, the more volatile your relative returns will be.”

What Sharia-compliant options are available?

Many Muslims struggle to invest in line with their faith because they want to avoid companies that profit from activities deemed harmful or impermissible in Islam, including alcohol, tobacco, firearms and gambling.

Mr Valecha of Century Financial says Sharia-based investing is becoming increasingly popular in the Middle East and UAE. "For many local investors, it will be a first choice method,” he says.

A small but growing number of Sharia funds are looking to invest in wider social responsibility, including the environment. Templeton Shariah Global Equity targets long-term capital growth by investing primarily in Sharia-compliant global stocks, although performance is poor with the fund down 2.68 per cent over five years, according to Trustnet Offshore.

Luxembourg-based NBD SICAV MENA Opportunities Fund, which invests across Saudi Arabia, Qatar, Kuwait and the UAE, is up 21 per cent measured over three years, while the NBD SICAV Emirates Islamic Global Balanced is up 10 per cent over three years.

As the world wakes up to the dangers of climate change, the ESG sector is likely to grow in prominence. One day, it could be the mainstream. The world may have no choice.

Updated: July 22, 2019 10:28 AM

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