Ethical investment – what price?

An increasing number of Australians are looking to pursue ethical investments outside of superannuation but, as Mike Taylor reports, there is a concern that some planners are being hamstrung by inflexible approved product lists.

Do the approved product lists (APLs) of Australia’s financial planning groups provide planners with enough scope to help clients who want to pursue ethical investment?

The answer is that the number of ethical investment products on APLs is greater in 2017 than it was in 2014, but that the progress made in the retail financial services sector falls far short of that achieved within the wholesale/institutional sphere.

Financial planners are acknowledging growing levels of client interest in ethical investment but they also acknowledge that they are not always able to gain access to the full suite of products that might help them meet their clients’ needs.

This stands in stark contrast to Australia’s superannuation fund industry where a significant number of funds have become signatory to the United Nations Principals of Responsible Investing (UNPRI), and where last month AMP Capital extended its commitment to environmental, social, and governance (ESG) and responsible investing by introducing a new decision-making framework.

According to AMP Capital, already an UNPRI signatory, the framework means that it can exclude, in exceptional circumstances, companies, or sectors on ethical grounds across its entire portfolio where AMP Capital is responsible for the investment management. 

According to the launch materials, “the new framework recognises and applies degrees of ‘harm’ or the ‘denial of humanity’ of another person as determining factors. It also takes into account whether there are international conventions that prohibit or control the use of a company’s products”.

“On reviewing all of the sectors in which we invest, AMP Capital concluded that manufacturers of tobacco, cluster munitions, landmines, biological and chemical weapons do not meet the required ethical standards and will be excluded from our investable universe,” it said.

The company said the bottom line was that it would be divesting approximately $450 million worth of tobacco-related equity and fixed income holdings from its portfolios and would also be divesting around $130 million in funds invested indirectly in manufacturers of cluster munitions and landmines.

There is substantial logic backing the AMP Capital announcement, not least a detailed appreciation of the degree to which its new framework will give it more cut-through not only with established institutional investors, but with the growing number of retail investors seeking out ethical investment opportunities.

According to former Premium Wealth Management chief executive, Paul Harding-Davis, retail financial services has not kept pace with the superannuation industry when it comes to ESG investing, and many financial advisers would be likely to struggle in seeking to meet their clients’ needs.

Harding-Davis, who at one time worked for Australian Ethical, said institutional players such as superannuation funds had been far more focused for far longer on ESG investment.
Australian Unity planner, Andrew McKee agrees with Harding-Davis but points to a growing level of interest among his clients in environmental investments.

“You talk about ESG investing, but the interest from clients seems to be in the environmental side – the E of the ESG,” he said.

“They are looking for an environmentally friendly portfolio and they will take the sustainability and governance issues if that comes along with the product as well,” McKee said. “But they are not looking for a social governance filter, they are looking for an environmental filter.”

A planner who has been focused on ESG investing for more than a decade, Ethinvest managing director, Trevor Thomas agreed with Harding-Davis that most progress had been made in the institutional arena but noted that many planners might be feeling constrained by the nature of their APLs.

“The average planner is restricted by what they can recommend off their APL,” he said. “They’re not really being insensitive, they’re just working off a limited menu.”

Notwithstanding this, both Thomas and McKee said there was a need for planners to become more conversant with environmentally-focused investments and to not be dismissive of clients seeking out such opportunities.

Thomas in particular said his firm had encountered quite a number of new clients seeking out an ESG investment approach saying they were sick of being patronised by planners.

McKee acknowledged the possibility that many planners were being constrained by the nature of their APLs, but said the Australian Unity APL was reasonably broad and allowed for well-researched ESG funds.

"You talk about ESG investing, but the interest from clients seems to be in the environmental side – the E of the ESG." – Andrew McKee

“My bigger issue is that that universe is still relatively limited and it might be less limited at the institutional end because they can put mandates together that meet the criteria,” he said.

“In terms of retail managed funds there are options out there but it is a limited universe,” McKee said.

In pointing to this limited universe, he suggested that there were substantial opportunities for fund managers to broaden their range and capture more dollars.

“A low cost passive ESG fund of some sort,” McKee suggested.

Thomas noted that despite the challenges, ESG investment had grown comparatively rapidly in Australia.

“There’s still a market for people who are driven by values and concerns about sustainable and social issues that goes beyond sustainable – the traditional ethical space,” he said.

Thomas said the language of ethical investing was being slowly overwhelmed by social and impact investing

“It’s an evolving market, there are still people who want to be involved in capitalising a better world for tomorrow,” he said.

Thomas said he believed the situation was improving in increments pointing to companies such as Perpetual which had brought an ethical SRI fund to market – something which had given people an option within their portfolio.

However, he noted that planners were most unlikely to put a client into one fund and that an ethical fund was likely to be just one of a dozen funds utilised by a planner.

“Which begs the question of what is going on with the other 11 funds,” Thomas said.

McKee noted that directing allocations towards ethical investments was easier by utilising direct equities – something which provided the opportunity to tailor their portfolio to fit their views.

Looking at the numbers of clients who came to him looking for an ethnical investment approach, McKee said he thought it probably stood at around 10 to 15 per cent with the proportion having increased over the last five years.

But he noted that those clients who wanted to adopt an ESG approach did not usually do it by halves.

“If they want a portfolio that is environmentally friendly, they will typically want all of it to go into an environmentally friendly portfolio,” McKee said.

What is more he said that there seemed to be an acceptance by such clients that such investments would come at a cost, particularly with respect to higher fees.

“It is not just young clients looking for ESG investments,” McKee said. “It is across the spectrum and clients are prepared to pay a higher fee for ESG solutions. And by definition they will, because you can’t use index funds, but it seems that it’s just not an issue for them. They will accept the higher fee.”

“When I talk to clients I explain the fundamentals – both sides of the argument – limited investment universe, higher risk or decreased return, and that the ESG supporters say the companies will be successful in the years and decades to come making more investment sense.

“I tell them we’re only going to really know down the track,” McKee said.

“Their [the client’s] view is they’re investing in companies that will be successful in the years and decades to come and will accommodate a bit of pain now for the benefits in the future. So fees become a non-issue,” he said.