Ethical investment - a primer

Ethical investment is a term that has come to describe investment behaviour that is at least partly aligned to investors' values - that is, when non-financial factors are taken into account when choosing their investments. This has become increasingly important in a globalised world where massive quantities of capital can lurch from one country to the next to achieve significant profits from fine margins, and investors are increasingly poorly informed as to where their money is being invested.

In an attempt to meet the demand for ethical investment, some fund managers have developed ethical funds by screening out unethical investments, or including only investments that are considered to be environmentally and socially responsible. Factors typically considered are human rights, tobacco, gambling, alcohol, labour relations, weapons, nuclear issues, local and global environment, and animal welfare. Evidence is accumulating that biasing investments in this way need not jeopardize investment returns, and can deliver superior returns. At the very least, people like to know that they can, if they want, obtain information on where their money goes, and what the social, environmental, or cultural effects may be.

Despite the demand, ethical investment is limited practically by two things. The first is the shortage of information on non-financial performance, for most kinds of investments. Many would also argue that even the financial information in company reports is insufficient for properly informed investment decision-making, and that disclosure requirements need to be more demanding for this reason alone.  Fortunately, we are seeing some progress on this now.  The second, and related factor, is the lack of data relating measures of financial and non-financial perfomance, that is needed to help investors assess the financial implications of taking non-financial factors into account. At present, any ethical investment fund needs to be constructed on the basis of considerable research involving information sources beyond company reports. As a consequence, ethical funds make up just a fraction of the managed funds that are available to investors. They are hard work.

More widespread adoption of corporate sustainability reporting should in theory facilitate ethical investment. However at present, this reporting is entirely voluntary and requirements for public disclosure are much less demanding. Better reporting will come when it is perceived to meet needs of companies, markets, countries, and investors. With their greater alignment to company needs for sustainable development, management systems such as KiwiGrow™ should facilitate more widespread adoption of sustainability reporting, and hence greater prevalence of investment that meets the general objective of sustainable development.

Taking such a view might suggest onerous reporting requirements. However reporting requirements for individual companies need to focus on information which effectively supplements information provided for the industry or sector as a whole. Of course, some of this reporting will continue to be voluntary, perhaps within the context of certification schemes, as businesses seek financial rewards from sustainable behaviour. See Certification and Accreditation.

Using KiwiGrow™

While an ideal world might have every public company rated on a 0 - 10 scale based on KiwiGrow™ or NZ2100 sustainability reporting, we can say with some assurance that is likely to take some time. Individual investors, then, who wish to include non-financial criteria in investment decisions, have a problem, particularly if they live in a small country like New Zealand, where they may prefer to invest locally, rather than expose themselves to currency exchange rate risk if they invest overseas, say in the UK or USA. Individual investors who attempt to build their own investment portfolios need to work with their financial advisors to assess individual securities against criteria for sustainable development. For this, the NZ2100 framework for sustainable development provides a start, and can assist individual investors approach the question systematically. Guidelines need to be prepared to help investors to make these assessments, using typical information sources. Investors operating this way will always have a problem however, in the sense that to achieve satisfactory diversification requires about 40 individual securities, which represents quite a lot of research. For the investor with a real interest in sustainable development, this could be a rewarding interest that can possibly provide information that can be shared, through a KiwiGrow™ or other NZ2100 Network. There are a lot of individual investors out there, and there is a real opportunity to do significant research and make the ethical investment process that much easier for others.

Fund managers need to look hard at their criteria and indexes used for selecting securities for their ethical funds and other portfolios. The NZ2100 reporting standard provides a robust definition of sustainable development that can guide the evaluation process. In the short term, the framework will likely provide more questions than there is information available to answer. However, on theoretical grounds at least, a company that operates according to a sustainability framework like NZ2100 ought to exhibit improved performance, especially if it sources funds from, and sells products and services to, communities that desire sustainable development - and this is starting to look like being the case. Fund managers can be important drivers for sustainability reporting, and more demanding information disclosure requirements. Investment institutions and stock exchanges can themselves adopt frameworks like NZ2100 to guide their own operations and development as businesses. This would be a huge step forward for sustainable development, and a major moderating effect on the destabilising influences of excessive international capital flows.

Ethical decision-making

While there is accumulating evidence that many investors can invest their money ethically and still obtain financial returns as good or better than from purely financially-based decision-making, situations inevitably arise where a trade-off has to be made. NZ2100 provides some help with these decisions. Firstly, investors operate as either individuals or members of some larger entity. This larger entity may be as large as an investment institution, or as small as an individual household. Ethical decisions on behalf of these larger entities can be viewed in terms of the NZ2100 framework for sustainable development: investment decisions have multiple outcomes, and decision-makers need to weigh all these outcomes for their impact on the ability of these larger entities to develop sustainably. The framework applies down to the level of the individual household, where investors must consider synergies and trade-offs in the need for the family or household to develop socially, economically, environmentally and culturally.

Ethical decision-making does however have a purely personal component, which is not directly concerned with the wellbeing of a household, business or community. It is concerned with the health and wellbeing of you as an individual, and building your ability to contribute to the family, the household, the community and beyond. The standard NZ2100 or KiwiGrow™ decision framework is not helpful at the level of the individual: you as an individual cannot be considered a social system, economic system, an environmental system, or a cultural system, without stretching the definitions of these terms untenably. If you want to approach decisions about your personal wellbeing and your personal need for balance systematically, then you can employ the NZ2100 model for personal health and well-being (the platform for "Personal KiwiGrow™). With this framework, you acknowledge that your health and wellbeing, and your ability to contribute positively to society and the environment, can be viewed from four perspectives: physical, intellectual, emotional, and spiritual. Your physical wellbeing is concerned about your bodily health and material wealth and comfort, and your ability to contribute materially to the world. Your physical health and wellbeing also depends intimately on your intellectual, emotional and spiritual wellbeing, and you can contribute in these four dimensions. As a result, you can see how the KiwiGrow™ Personal Framework for achieving balance and personal health and wellbeing is obtained, as the intersection of the KiwiGrow™ Common Sustainability Language, with these four dimensions of personal health and wellbeing:

NZ2100 model for personal health, well-being and development
(shaded arbitrarily to suggest strengths and weaknessed)

Looking at this framework, you can see how investment decisions which focus largely on physical and material wellbeing, need also to be considered in light of their associated intellectual, emotional and spiritual outcomes. Investing ethically, and the processes leading to these decisions, challenge you as an individual to expand yourself intellectually, to acknowledge the emotional and empathic dimensions of these decisions, and the connections of all these to your spiritual health and development.