Last year was important for the socially responsible investment (SRI) industry. The highlight was un...
Last year was important for the socially responsible investment (SRI) industry. The highlight was undoubtedly the introduction of a new regulation governing pension funds that came into effect in July 2000. This regulation requires pension fund trustees to disclose the extent to which social, environmental and ethical factors are taken into account in investment decisions.
This measure is the first time a Government has obliged pension funds to consider environmental and social factors in their investment policy, and is now driving other European countries to consider introducing similar regulation.
All the signs indicate that this year will be just as exciting. There have already been a number of product launches into the retail market, increasing the number of funds available for individuals, and their financial advisers, to choose from.
Two leading UK charities, Oxfam and Christian Aid, with combined pension fund investments of £53m, have also announced they will launch a socially responsible fund aimed at strengthening their influence over causes they oppose.
The initiative is seen as the start of a much wider move by other charities to use their financial muscle on ethical issues.
In January 2001, the German Bundestag announced a disclosure regulation, similar to the one announced last year in the UK, as part of new pension fund legislation. France, Belgium and the Nordic countries are likely to follow suit.
Last month also saw the launch of new family of indices called FTSE4Good. While the launch of the indices marks the start of a consultation process to discuss the selection criteria, the objective will be to identify companies with the strongest records of corporate social and environmental performance.
So how have we got to where we are today?
The SRI movement has been active in the UK for some 16 years. Since then, the SRI investment market has undergone rapid growth.
Gone are the days when ethical funds were defined simply by avoiding investments in nuclear power or tobacco manufacturers. Today, while ethical issues still play an important role, the environmental agenda has assumed a more dominant role for a number of SRI funds. Consequently, there is now a wide choice of funds, with investment providers offering products for all types of ethically concerned client.
Along with the growth in the number of funds, the overall demand for SRI products is also increasing. At the last count in the UK, more than £3bn was invested in purely SRI retail funds. In itself, this is not a large proportion of the total UK investment market, but it is expected to rise dramatically following last year's introduction of the new pension fund regulation.
A UK Social Investment Forum survey at the end of 2000 found that 59% of UK Pension Funds, with assets totalling £302bn, now incorporate socially responsible investment into their investment strategies.
While traditional ethical screening strategies continue, the emphasis is shifting from avoiding negative criteria, such as alcohol and gambling, to more contemporary concerns such as genetically modified organisms or animal welfare. Alongside ethical screening, some SRI funds use another tool, known as engagement.
Engagement is about influencing and encouraging companies to improve environmental and social performance no matter the sector in which they operate.
Engagement is not limited to voting activity at AGMs. It involves meeting with companies to encourage improvement in environmental management. Jupiter has found the most effective way to engage is by suggesting improvements and initiatives directly to the company's senior management, during meetings or site visits. Dialogue may focus on a general issue, such as environmental reporting or rather the lack of it, or on a specific issue, in the case of a bank, for example, encouraging the consideration of environmental and social issues in lending decisions.
It is increasingly recognised by a growing number of investors that good environmental performance and good financial performance are related. This has resulted in 'Best in Sector' analysis, with investors wanting to invest in companies adopting leading environmental practices, which can be measured by a range of parameters:
Governments around the world are increasingly prepared to penalise companies for wasteful use of resources. In the UK, the Climate Change Levy and the Landfill Tax are gradually driving up the cost of energy usage and waste disposal. Similarly within the EU, discussions about carbon-related taxes are well heard.
Therefore, those companies that reduce their energy inputs or waste outputs will not only benefit the environment but also their own bottom lines.
Fund management is as much about avoiding losers as it is about picking winners, making it essential to identify the potential environmental pitfalls that companies face and understand how they are dealing with them.
Potential risks might include sourcing products manufactured using child labour or using timber from unsustainably managed forests.
While environmental issues pose significant risks to the reputations of some companies, others use their environmental performance to build their brands and to win new customers. For other companies, environmental issues are used more to protect and enhance an existing brand.
Winners and losers
Although it may seem obvious that companies addressing these issues early stand to benefit from reduced costs and new revenue opportunities, there are still discernible leaders and laggards in all sectors.
The process of SRI research aims to differentiate between the two, and help fund managers identify forward-thinking companies that are ensuring their businesses will be able to adapt to and profit from the growing environmental challenges that society faces.
Jupiter believes it is essential to monitor and understand these links but it is equally important not to presume environmental performance is the be-all and end-all of company performance. The company recognises that environmental performance is only one of many indicators of management strength in a company. Environmental and social performance must be complementary to financial performance. In this way, Jupiter applies a double level of scrutiny to all investments in SRI funds.
One of the clearest indicators of SRI becoming more mainstream is the emerging market for successful environmental solution providers, particularly relating to alternative energy.
Whether it is a result of current speculation over the impacts of climate change or the need to deliver reliable power, alternative energy technologies may hold the key. They not only provide a solution, but also have the potential to deliver strong financial performance. Over recent years, North America has been an excellent source of alternative energy technology thanks to the widespread availability of Government funding to start-up technology companies.
This climate of innovation has given rise to a number of companies including Astropower, a manufacturer of photovoltaic cells, the working parts of solar panels, and Ballard Power Systems, a leading fuel cell developer.
One of the classic alternative energies, wind power, is also under the spotlight. Danish companies Vestas and NEG Micon, both wind turbine developers, are two of the most important names in the growing European wind power industry.
Green funds derive their competitive advantage from spotting trends in environmental technologies at an early stage alternative energy is just one example.
Also promising are companies developing new water treatment processes or recycling opportunities. As the pace of environmental technology companies coming to the market accelerates, so will the number of investment themes and opportunities.
As we move forward, Jupiter expects socially responsible investment to continue to develop in exciting and important directions.
The company also anticipates that a number of the principles behind green investment will emerge to become mainstream investment issues. Over time, this can only result in benefits for green investment and the environment.
Emma Howard Boyd is head of the Jupiter Environmental Research Unit
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