How to build a responsible fund portfolio

We think that a global ESG (environmental, social and governance) tracker fund could act as part of the backbone for lots of responsible portfolios.

The Legal & General Future World ESG Tilted & Optimised Developed Index invests in around 1,300 companies across the globe and aims to track the Solactive L&G ESG Developed Markets Index.

The index increases investments in companies that score well on a variety of ESG criteria – from the level of carbon emissions generated, to the number of women on the board and the quality of disclosure on executive pay. It also reduces exposure to companies that score poorly on these measures.

The fund won't invest in companies that make controversial weapons (like cluster munitions, anti-personnel mines, and chemical and biological weapons), and those with significant involvement in tobacco, thermal coal, oil sands or civilian weapons. It also avoids persistent violators of the UN Global Compact Principles (a UN pact on human rights, labour, the environment and anti-corruption).

The fund also aims to achieve at least a 7% reduction in carbon emissions per year until 2050.

Investors should note that the fund invests in smaller companies, which adds risk.

Find out more about Legal & General Future World ESG Tilted & Optimised Developed Index, including chargesView Key Investor Information

As UK investors, we think it generally makes sense to pay extra attention to our home market. When we spend in sterling, we should usually hold some investments in sterling, too. That way, we don’t have to worry about changes in exchange rates.

We think Aegon Ethical Equity is a good option for a responsible investment fund focusing on the UK stock market.

The fund has been managed by Audrey Ryan for more than 25 years. She uses a strict approach and won’t invest in companies some might deem unethical, including those that derive a significant proportion of their revenues from areas like tobacco, alcohol and munitions.

The manager aims to identify and understand the key environmental, social and governance risks of each company, industry and sector she invests in. She believes companies that lead the way in governance and sustainability tend to outperform over the long run.

Many of the UK’s largest companies are excluded from the fund's investment universe for ethical reasons. This means there’s a focus on higher-risk small and medium-sized companies.

Find out more about Aegon Ethical Equity, including chargesView Key Investor Information

The Legal & General Future World ESG Tilted & Optimised UK Index is another option for investing in the UK. It aims to track the Solactive L&G Enhanced ESG UK Index, which is made up of about 300 companies spread across the whole of the UK market.

Like the Developed Index, which forms part of the same Future World range, it increases investments in companies that score well on a variety of ESG factors and reduces exposure to companies that score poorly. It also avoids investing in companies involved in controversial weapons, and those with significant involvement in tobacco, civilian firearms, thermal coal and oil sands. It also avoids persistent violators of the UN Global Compact Principles (a UN pact on human rights, labour, the environment and anti-corruption).

On top of this, the fund adopts a decarbonisation pathway. This means it aims to reduce emissions by 7% per year until 2050.

Investors should note that the fund’s investments in smaller companies add risk.

Find out more about the Legal & General Future World ESG Tilted & Optimised UK Index, including chargesView Key Investor Information

The UK has also been a world-renowned income market, so if income is a priority, investors could consider investing in a UK-focused responsible income fund.

The Janus Henderson UK Responsible Income fund aims to give a good level of income, alongside capital growth over the long term. Andrew Jones has been at the helm since January 2012 and has almost 25 years’ experience managing UK equity income funds.

The fund won’t invest in areas that some investors consider unethical, such as companies with significant involvement in alcohol, armaments, gambling, non-medical animal testing, nuclear power, tobacco and fossil fuel power generation (although companies generating power from natural gas may be allowed if the company's strategy includes a clear plan to transition to renewable energy power generation). All investments must also be compliant with the UN Global Compact.

Before adding any company to the fund, Jones carries out detailed ESG analysis, engaging with company managers if he feels there’s room for improvement. The manager’s flexibility to invest in smaller companies adds risk. Please note that the fund takes charges from capital, which could boost the income but reduces the potential for capital growth.

Find out more about Janus Henderson UK Responsible Income, including chargesView Key Investor Information

For portfolios designed to produce an income, Baillie Gifford Monthly Income could be a good way to add diversification.

The fund invests globally and is diversified across 200 to 300 investments. There are three broad categories of investments in the fund: shares, real assets and bonds. The amount invested in each asset changes over time based on the managers’ long- and shorter-term views of the world. However, over the long term, the fund will have roughly a third of its assets in each of these sections.

The fund applies a screening process to avoid companies that are subject to UN Security Council sanctions or are non-compliant with the UN Global Compact initiative. It also screens out companies that have revenues above particular thresholds coming from fossil fuel extraction and production, thermal coal distribution, tobacco production, controversial weapons and armaments.

As part of their company assessments, the managers also consider a number of different sustainability metrics and assign each company an overall score. This helps them to compare different companies’ sustainability credentials. Those that are considered leaders within their sector are preferred. However, they won’t invest in the lowest-scoring companies.

The managers have the flexibility to invest in emerging markets, high-yield bonds and derivatives, which adds risk. The fund also takes charges from capital, which could boost the income, but reduces the potential for capital growth.

Find out more about Baillie Gifford Monthly Income, including chargesView Key Investor Information

Bonds are generally less volatile than shares – that means they normally don’t have as many ups and downs – so they can help with diversification. They also tend to grow more steadily over the long term. Remember: it’s still possible to get back less than you invest.

We think the Liontrust Sustainable Future Corporate Bond fund could be a reasonable option for investing in corporate bonds. Managers Kenny Watson, Aitken Ross and Jack Willis form a view on the outlook of the economy and then invest in bonds issued by companies that can hopefully thrive in that environment.

Investors should be aware that the fund's exposure to utilities makes it one of the more carbon-intense funds under our research coverage. Companies with high carbon intensity may face growing scrutiny from both investors and regulators, as well as increased costs related to carbon emissions management and potential carbon pricing mechanisms, which could impact the fund's performance. However, the managers are prepared to invest in companies that may have a higher carbon intensity today if they are supporting the transition to a net-zero economy.

The managers believe companies whose products benefit the environment and society, and that manage their own impacts well, have the potential to do well over the long term. Their flexibility to invest in high yield bonds and derivatives adds risk.

Find out more about Liontrust Sustainable Future Corporate Bond, including chargesView Key Investor Information

The Stewart Investors Worldwide All Cap fund could be a good option to add a satellite to the mix. Manager Nick Edgerton invests in companies of all sizes, including higher-risk smaller ones. The emphasis is on companies that have a positive impact on society, the environment and health.

The fund excludes companies with significant involvement in controversial areas, such as nuclear power, tobacco, alcohol and gambling. Investors should note that the fund has investments in emerging markets and is a concentrated portfolio. Both of these factors increase risk.

Find out more about Stewart Investors Worldwide All Cap, including chargesView Key Investor Information

Some investors want to feel they're making a positive difference to the environment and society through their investments. Sustainability impact funds measure and report back on the positive impact they set out to make on the environment and society.

We think FP WHEB Sustainability Impact could be a sensible option. The team behind it invests based on nine sustainable investment themes, ranging from resource efficiency and sustainable transport to education and wellbeing.

Every investment into the fund makes a positive difference. £20,000 invested into the fund throughout 2024 helped:

• Generate 10 MWh of renewable energy

• Avoid 14 tons of carbon dioxide emissions

• Provide one person with improved healthcare treatment

• Treat 900,000 litres of wastewater for reuse

Investors should note that the portfolio looks very different from the broader global stock market, so we expect it to perform differently, too. The fund's focus towards small- and medium-sized companies adds risk, as does its flexibility to invest in emerging markets.

Find out more about WHEB Sustainability Impact, including chargesView Key Investor Information

Asia and emerging markets offer the potential for greater long-term returns, but they’re riskier than developed ones, so investments here should usually form just a small part of a well-diversified portfolio.

The Legal & General Future World ESG Tilted & Optimised Emerging Markets Index fund provides broad exposure to emerging markets by tracking the Solactive L&G Enhanced ESG Emerging Markets Index. The index is made up of around 1,700 companies spread across a range of countries including Taiwan, India and China. These markets are higher risk as they're at an earlier stage of development, so this fund only be considered only for a portfolio with a longer investment outlook that can accept periods of high volatility. The fund also invests in smaller companies, which adds further risk.

It uses the same approach as the other funds in the Future World range, increasing investments in companies that score well on a range of ESG criteria and reducing exposure to those that score poorly. It won't invest in persistent violators of the UN Global Compact Principles or those with significant involvement in tobacco, civilian firearms, thermal coal and oil sands. Controversial weapons makers are also excluded.

On top of this, the fund adopts a decarbonisation pathway, aiming to reduce emissions by 7% per year until 2050.

Find out more about Legal & General Future World ESG Tilted & Optimised Emerging Markets Index, including chargesView Key Investor Information