Sustainable investment funds: clear conscience and returns

"Invest like King Harald of Norway!"

While this might sound like an investment tip from the pages of a tabloid, it is based in sound thinking. The thousand-billion-dollar Government Fund of Norway, which has been receiving government revenues for more than 20 years, is one of the most prominent pioneers of environmentally-friendly and ethical investments. Moreover, the state of Norway, which owes its prosperity to its bubbling oil and gas wells, also practices ethical divestment. In other words, its asset managers are consciously withdrawing from investments which don’t pass muster.^[1] For the past three years, the Norwegian fund has been cleansing its portfolio to weed out companies that do not adhere to environmental standards: for example, businesses where more than 30 percent of their revenues are derived from coal power plants. Arms and tobacco companies are also taboo for the socially-conscious Norwegians moving forward.

Products for choosy investors

What the Norwegians buy and what they tend to avoid is attracting worldwide attention – after all, the state sits on 1.5 percent of all shares traded worldwide.^[1] But even private investors with modest savings can decide which companies, sectors or states they support financially, and which they consciously ignore. The ESG label – which stands for the key investment criteria: Environmental, Social and Governance – is becoming increasingly common. ESG-compliant investment vehicles must consider (1) the environmental and (2) the social impact of investing, and (3) scrutinize the behaviour of the corporate management team. ESG products reflect the progressive mind set of select investors and the mood of the times. To use a restaurant analogy, diners get to pick which ingredients, additives or allergens they would prefer not to have in their meal.

The ESG offer is expanding. Investors can now apply a wide range of sustainability strategies. One of the most prominent ESG strategies for funds is investment according to exclusion criteria. In other words, from the outset fund managers exclude certain companies which do not meet their ethical and environmental standards – much like the Norwegian sovereign wealth fund. This principle can be applied to entire industries, such as the nuclear industry.

Investing broadly across industry – but only in the most suitable companies

Another strategy follows the so-called ‘best-in-class-approach’. ESG funds of this type invest in principle in all sectors, but look for specific indicators, i.e. companies that perform best within their peer group but are more sustainable than the direct competition. Another variant is ‘best-of-class-products’. Here managers invest only in the most sustainable industries but choose a broad range of companies within that category. The funds share similarities with theme funds, for example for renewable energy or water (see element).

Sustainability and returns go hand in hand

In any event, ESG selection filters always complement the usual tools fund managers use to look for attractive investment goals. And in many instances, carefully considered ESG criteria even can improve the performance of a fund. This virtuous circle can be seen in the Government Fund of Norway which is a role model not only in terms of sustainability, but also in terms of decent returns.