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Ethical sector

Ethical sector

The term ‘ethical’ is often used as a catch-all term to describe any fund that is managed with social, environmental, or other ethical criteria in mind.

Dominic Rowles - Investment Analyst
31 August 2018

The term 'ethical' is often used as a catch-all to describe funds managed with social, environmental, or other responsible criteria in mind.

But there are lots of different ways you could profit from your principles. The main approaches are:

  • Ethical funds – These usually avoid investing in companies that do harm to society like weapons manufacturers and tobacco companies. We call this negative screening.
  • Sustainable and impact funds – These funds invest in companies that have a positive effect on the world, which is known as positive screening. It could mean they make their products from recyclable materials, or they provide clean energy. Impact funds try to measure the positive impact their investments have on the world.
  • ESG integrated funds – Managers of ESG integrated funds consider environmental, social and governance factors as part of their wider research.
  • Passive funds – Ethical trackers follow the performance of an index but filter out certain industries, like oil & gas and munitions.
  • Shares – If you can’t find a fund that meets your ethical needs, you could consider investing in a selection of companies.

If you want more information on any of the approaches mentioned above, please read our latest guide.

Guide to investing ethically

Our view on the Ethical sector

Investing ethically offers the possibility of making money whilst also benefiting society. And it’s becoming more and more popular with investors of all ages.

But ethics are personal. An industry that seems abhorrent to one person might seem like a necessary evil to others. Take pharmaceuticals. Some investors would avoid the industry because of moral objections to animal testing. Others suggest the work of pharmaceutical companies contributes to the development of society.

That’s why you’ll need to clarify each fund’s approach and make sure it’s consistent with your moral views before you invest. We look at the approaches taken by a selection of funds on the ‘fund reviews’ tab of this sector review. But you’ll find a more detailed description of each fund’s investment process in its prospectus.

Striking a balance between investing morally and delivering strong performance is no easy task. We don’t tend to find many fund managers who’ve handled the constraints of an ethical fund well over the longer term. There’s only one negatively-screened ethical fund on the Wealth 50 list of our favourite funds but there are a few funds managed with a more sustainable approach.

Investment notes

Please remember past performance is not a guide to future returns. Where no data is shown, figures are not available. This information is provided to help you choose your own investments, remember they can fall as well as rise in value so you may not get back the original amount invested.

How an ethical fund performs depends on lots of factors, including the manager’s investment process.

Cutting out certain industries completely is one way to make sure your investment portfolio is aligned with your morals, but it will have an effect on performance. For instance, if you invest in a fund without any exposure to the oil & gas industry, it will do well when the industry is out of favour, but it won’t do so well if the industry stages a recovery.

Sustainable and ESG strategies normally give the manager freedom to invest in a broader range of areas. They can invest wherever they see the best opportunities and the extra diversification should mean the fund is less volatile over the longer term.

We look at how the various ethical investment approaches can affect performance in greater detail in our guide to investing ethically.

Read our guide

Investment notes

Please remember past performance is not a guide to future returns. Where no data is shown, figures are not available. This information is provided to help you choose your own investments, remember they can fall as well as rise in value so you may not get back the original amount invested.

Our favourite funds in the sector

Below we review a selection of funds managed with ethical or socially responsible criteria in mind. They are provided for your interest but are not a guide to how you should invest. If you are unsure of the suitability of an investment for your circumstances seek personal advice. Comments correct as at July 2018. Remember all investments can fall as well as rise in value so investors could get back less than they invest. Past performance is not a guide to the future. There is a tiered charge to hold funds with HL. It is a maximum of 0.45% p.a. - view our charges.

Other funds in the sector

Here we look at some other funds of interest following our most recent sector review. Please note the review period may be over a short time period and past performance is not a guide to future returns.

Source for performance figures: Financial Express

A UK-focussed fund with a bias towards higher-risk small and medium-sized companies and sectors that are more sensitive to the economy. We consider it to have a 'negatively-screened ethical' approach. That means it won’t invest in areas like tobacco, arms and gambling.

The fund delivered a solid return over the past year but performed less well than the broader UK stock market. It suffered from a lack of exposure to companies in the natural resources sector, which performed well. That said, the manager’s investments in the technology sector did much better than the broader technology industry.

Long-term performance has been impressive. It’s been helped by a focus on higher-risk small and medium-sized companies, which have outperformed their larger counterparts over the manager's tenure.

Audrey Ryan has been at the helm of this fund for almost two decades and we think she’s one of few managers to have handled the constraints of an ethical fund well over the long term.

This fund holds shares in Hargreaves Lansdown plc.

The managers focus on larger, high-quality companies with healthy finances and robust cash flows. They also look at how each company can benefit from, and contribute to, the sustainable development of the country they operate in. We see this as an ‘ESG integrated’ approach.

The managers have the freedom to invest across Asia, including higher-risk emerging markets. They tend to invest in established businesses with sustainable growth prospects. That means the fund has tended to hold up well in weaker markets. It’s done well over the past year as concerns over a potential trade war between the US and China held back the performance of the broader region. The team have also tended to avoid Chinese internet businesses, which have fallen heavily in recent months, because they don’t meet the strict quality criteria or high levels of corporate governance the team seeks in a company.

We rate the management team behind this fund highly and expect it to deliver strong returns over the long term, although there are no guarantees.

A global fund which combines negative and positive ethical screening alongside engaging with company management.

Robin Hepworth and David Osfield are willing to invest this fund quite differently to its peers to concentrate on the areas where they see value. The fund is currently focused on Asian markets, where they think companies with sustainable qualities are being overlooked by other investors. Asian markets have been held back over the past year because of Donald Trump’s threats to introduce more trade tariffs against China. This, combined with the fund’s lack of investments in the strongly-performing US stock market, has hurt performance over the past year.

The fund has performed better than the global stock market since Robin Hepworth began managing it in 1999, although it’s largely underperformed since 2010. Investors should note that the manager can invest in higher-risk emerging markets.

This fund invests in shares and bonds issued by UK companies of all sizes, including higher-risk smaller companies, with the aim to generate an attractive level of income. We consider it to have a ‘negatively-screened ethical' approach.

Catherine Stanley combines her views on the economy and individual businesses to build a portfolio capable of generating income over the long term. She doesn’t invest in companies that make a lot of money from gambling, pornography, tobacco or weapons.

Our analysis suggests the fund’s bias towards higher-risk small and medium-sized companies has helped performance, but the fund has marginally underperformed the broader UK stock market over the manager’s 9-year tenure.

This fund mostly invests in investment-grade corporate bonds and has a ‘negatively-screened ethical' approach.

The managers are cautious on the prospects for corporate bonds and have invested the fund defensively. They’ve mostly invested in bonds issued by high-quality companies, which typically provide lower yields. Despite the managers’ concerns, UK corporate bond prices have generally remained high and default rates low, meaning the fund’s defensive positioning held back returns over the past few years.

That said, the managers are supported by a well-resourced fixed-interest team at Kames which we hold in high regard. We view this fund as a good option for investors seeking an ethically managed bond fund. Investors should note the fund can invest in higher-risk high yield bonds.

This is an investment-grade corporate bond fund using a sustainable approach. The manager looks for companies that try to make a positive impact on society, as well as excluding those in industries such as alcohol, gambling and pornography.

The main attraction of this fund is that it is managed by the experienced Eric Holt and his team. They look for opportunities off the beaten track, in areas under-researched by other investors. The fund is currently focused towards bonds issued by financial companies and those that give the bondholder a claim on the company’s assets if it can’t repay its debts.

The fund outperformed its benchmark over the past year. Recent purchases include bonds issued by Investec Bank and Goldman Sachs.

Please note the fund can invest in high yield bonds, which are higher-risk.

This fund invests globally in companies of all sizes, including higher risk smaller companies. The emphasis is on companies that have a positive impact on society, the environment and health – a ‘sustainable’ approach.

Nick Edgerton’s sustainable approach means he’s unlikely to invest in certain companies like tobacco, alcohol, and weapons, but they are not specifically excluded. Investors should note the fund has some exposure to emerging markets and is a concentrated portfolio. Both of these factors increase risk.

The manager’s track record is short, but he benefits from the support of a team we have long held in high regard. The fund underperformed its benchmark over the past year, but we believe the team will do a good job for long-term investors, although there are no guarantees.

Charlie Thomas looks for companies that offer solutions to environmental problems like pollution, resource scarcity and water shortages. We see this as a sustainable approach.

The fund doesn’t have many investments in miners, financials and the oil & gas sector as few companies in these industries help to solve environmental problems. That said, just because a company offers an environmental solution, that doesn’t necessarily make it a good investment. That’s why the manager also looks at other things like the quality of the management team, the company’s position in the market, its financial strength and its valuation.

The manager has a long track record, although the fund’s performance hasn’t kept pace with the performance of the broader global stock market over his tenure. Plus it tends to invest in quite a small area of the market. That means performance can differ significantly from global stock markets in the short term. We’re not currently considering this fund for a spot on the Wealth 50 list of our favorite funds.

This fund invests in companies across the globe that help address long-term demographic, environmental and resource challenges. They must also have strong prospects in their own right, and be available at an attractive price. It combines an ‘impact’ and an ESG integrated approach.

The team behind the FP WHEB Sustainability Fund focus on nine sustainable investment themes which range from resource efficiency and sustainable transport to education and well-being.

The fund has underperformed the broader global stock market over the past few years. Although a focus on higher-risk small and medium-sized companies has added value, our analysis suggests the manager’s selected companies have gone on to perform worse than other businesses of the same size. We’d like to see the managers build a long track-record of adding value through their stock picking before considering the fund for the Wealth 50

This is a passive fund. It invests in companies in the FTSE 350 Index that meet Ethical Investment Research Services (EIRIS) criteria.

Companies significantly involved in water pollution, intensive farming, gambling, adult entertainment, weapons manufacturing and tobacco sales are filtered out of the FTSE 350 index. The fund then aims to track the performance of the remaining companies.

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Investment notes

Please note the research updates are not personal recommendations to trade. If you are unsure of the suitability of an investment for your circumstances please seek advice. Remember all investments can fall as well as rise in value so investors could get back less than they invest.