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Top 100: ‘I’m amazed how many mainstream investors are going ethical'

Out of this year's New Model Adviser® top 100, 84 of the firms who made the list offer some form of ethical investment option. . However, several Top 100 IFAs tell Shunil Roy-Chaudhuri it has challenges and limitations.

Top 100: ‘I’m amazed how many mainstream investors are going ethical'

With 84 of New Model Adviser®’s Top 100 firms now offering services in various shades of green, this approach to investment appears more popular than ever. Investment editor Shunil Roy-Chaudhuri looks at the dilemmas posed by ethical investing. 

Of the IFA firms in this year’s New Model Adviser® Top 100 publication, 84 explicitly offer an ethical service. But how alike are these offerings and to what extent are ethical investment offerings a response to client demand?

Darren Lloyd Thomas, managing director of Pembrokeshire-based Top 100 firm Thomas and Thomas Financial Services, describes a ‘sea change’ in the past 15 years. He points out many younger clients want to invest ethically.

But he added: ‘I’m amazed how many mainstream investors are now going for ethical. They’re not necessarily in their 20s and 30s.’

Mixed views

Thomas’s experience is not shared by all planners though. Lee Glennan, managing director of Leeds-based Top 100 firm Glennan Wealth Management, put it bluntly.

‘There’s no client demand,’ he said. ‘If we had a bunch of clients wanting an ethical wrap, we would provide it. But we’re never asked for it.’

Even so, Glennan does include a question on ethical investing in client questionnaires. However Duncan Glassey, partner at Edinburgh-based Top 100 firm Wealthflow, has reservations. ‘If you ask: “Do you want to be ethical or socially responsible?” no one would say no,’ he said.

Meanwhile Jim Aitkenhead, managing director of Leicestershire-based Top 100 firm Hunter Aitkenhead and Walker, has seen a rise in ethical investing, albeit from a small base. ‘Until five years ago we had no ethical investors. Then one or two asked for it,’ he said.

‘Now we ask clients proactively and get a modest take-up. My perception is that it’s gaining traction.’

Fund filtering

A rising number of investments is being created to meet the increased demand. David Williamson, director of Hove-based Top 100 firm IEP Financial, said: ‘Around 10 years ago there was just the Jupiter Ecology fund. Today, there’s a huge range of options, across equity, bonds and property.’

Unfortunately, though, there can be an investment sting in the ethical tail. ‘There are degrees of ethicalness,’ said Williamson. ‘The stricter you are, the more the investment pool reduces.’

Glassey said: ‘We had a client who had seven ethical criteria. When we filtered for this, we came down to around 20 funds and they were very expensive in terms of management fees and didn’t give global diversification.’

Wealthflow does not offer an ethical investment service. ‘I don’t want to put our reputation at risk. We can’t control risk with extreme filtering,’ he said. 

By contrast, Diane Weitz (pictured above), director of Cheltenham-based Top 100 firm Ashlea Financial Planning, has offered an ethical investment service for the entire 12 years of her company’s life. ‘It’s a core part of what we do,’ she said.

She said the ethical approaches of clients could vary significantly. Some want to be totally ethical, and portfolios must be built around that requirement. Others might just want to avoid investing in specific areas, such as tobacco. ‘So we have to be careful what we choose for clients,’ she said.

Weitz’s solid ethical investing credentials (she is a member of the Ethical Investment Association) make the following comments sobering. ‘Any kind of ethical investor has to compromise,’ she said. ‘People wanting to be completely ethical are often not adventurous.

‘By its nature, ethical investing veers to small companies at the cutting edge of technologies, such as renewable energy. We discuss with these clients the fact they are higher risk companies. We have to see how much they will let their ethical hearts rule their investment heads.’

Seeking safety

Government bonds are often considered the safest of investments and an essential part of a well-diversified portfolio. However, there are no ethical gilt funds. ‘These bonds throw up lots of questions for clients wanting to invest ethically,’ said Thomas.

Property is also widely considered integral to effective diversification. But Thomas said it was hard to find property funds that met ethical investing requirements. ‘You’re starting to find a couple of options, but it’s difficult,’ he said.

Aitkenhead (pictured above) explained: ‘We looked through property funds to exclude some [commercial] tenants that wouldn’t meet ethical criteria. This involved lots of legwork. In the end we found a fund that met the requirements, but it involved manually checking each tenant in the portfolio, where we could get the data. So there was lots of work. We avoid investing in property for ethical.’

He said lots of legwork was required for clients with specific ethical criteria. He highlighted the difficulties of finding appropriate investments for specific exclusions, such as animal testing.

Moreover, Williamson said an ethical approach involves excluding many stocks across the globe. ‘Over time, the choice has increased,’ he said. ‘But it can become more challenging if you want exposure to emerging markets or Japan.’

Thomas said the stock of ethical funds was limited, and these funds could be relatively volatile. ‘Whenever you put ethical funds into portfolios, you increase volatility, which can throw up spikes when markets are in turmoil,’ he said. ‘The expectation is you need to accept more volatility.’

According to Thomas, an ethical approach means you reduce your pool of fund managers from around 3,000 to 90. ‘And they can’t use defensive stocks like tobacco and pharmaceuticals,’ he said.

An extra limitation is from fund managers who use the ethical label as what Thomas describes as ‘window dressing’.

‘They may say: “We have an SRI [socially responsible investing] policy” but what they are doing is not even light green.’ He said. ‘It might still invest in mainstream stuff, so you’ve got to continually monitor these funds.’

Discretionary solution

Williamson said there was higher chance of underperformance with ethical investments. Furthermore, ethical funds are generally active.

Glassey said, if a portfolio contains a number of funds that are highly actively managed, you could have different fund managers with the same holdings. ‘So you’re throwing risk controls, to a degree, out of the window,’ he said.

‘If you set up a portfolio that’s extreme from a filtering perspective, you’re giving away all your risk control levers and you can’t do your job. That’s not investing, it’s speculating. You’re hoping it works out well.’

Despite these limitations, there has been a ‘massive increase in what’s available’ for clients, according to Weitz. She points to the exclusively ethical approach of discretionary fund manager (DFM) Rathbone Greenbank. And she highlights the ethical investment service offered by Brewin Dolphin.

Aitkenhead, meanwhile, said he recommends ethical investments from DFM Parmenion. ‘We think it’s a super solution,’ he said. ‘It’s cost effective and minimises our research input as they are off the shelf and actively managed. So it’s a neat, complete solution for customers. I gather it’s going gangbusters.’

Thomas (pictured above) offers three ethical model portfolios, two fewer than his five ‘mainstream’ model portfolios. But he said he offers a top service with his ethical funds, with quarterly reviews.

However, he pointed out his firm cannot have cautious or adventurous ethical portfolios. ‘A cautious ethical portfolio would have to include government bonds, which causes problems. And running an adventurous fund is tricky, due to exposure to sectors such as emerging markets.’

He said he was ‘quite old school’ in his approach to ethical. ‘We prefer negative screening,’ said Thomas. ‘Many so-called ethical funds are much more about ESG [environmental, social and governance], which, say, rewards companies whose directors treat their staff well. Negative screening avoids, for example, casinos. If we can get nice things in there as well, that’s a bonus.’

Williamson has put together ‘a limited number of ethical portfolios’ for clients and will, if necessary, access funds on a platform with full ethical and SRI choices. He also uses ethical pensions, such as those offered by Aviva, Royal London and Scottish Widows, for employees from two renewable energy companies.

Even Wealthflow, which has a range of risk-rated globally diversified portfolios, offers a sustainability filter in the global equity part of these investments. ‘We know our portfolios are light on tobacco and carbon extraction,’ Glassey added. 

The future is green

Interestingly, despite concerns over their risk-adjusted performance, ethical funds have, according to Weitz, ‘done very well recently, as they’ve had little exposure to oil, gas and mining’. And even Glassey concedes compliance with ESG principles may improve risk-adjusted returns.

Looking to the future Williamson sees an increasing role for ethical investments. ‘My perception is clients accept more investment risk with ethical and people are more interested in the environment,’ he said. ‘Ethical investing will be more prevalent going forward.’ 

See the full New Model Adviser Top 100 list here.

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