Sustainable, ethical and ESG fund ‘approaches’

Sustainable, responsible and ethical investment strategies vary significantly. Fund managers can respond to the issues they have chosen to consider with different ‘approaches’.

Some approaches significantly alter where a fund invests, others do not – all are sustainability related approaches are implemented alongside financial considerations. These are typically described in ‘policies’ which form part of a fund’s investment strategy.

Funds typically apply one or more of the following three approaches:

Positive asset selection – supporting companies (or other assets) that are doing positive, beneficial or desirable things – by investing in them

This is a key feature of themed or positively screened investments. Such investments tend to focus on certain business areas or activities that they wish to support or benefit from. Decisions of this kind are normally made with the help of specialist researchers who help fund managers to identify whether or not a company fits the criteria they are looking for. Such strategies are likely to direct investment towards particular types of companies, often with the aim of supporting the delivery of positive real world benefits.
Some funds that focus on positive asset selection are referred to as impact investments. These funds are required to measure positive outcomes. (Note – all investments have an impact).

Avoiding companies (or other assets) that do things the fund has committed to exclude – by not investing in them

This is a key feature of negatively screened ethical investment. Negatively screened ethical funds avoid investment in specified business activities or industries. Funds of this type typically have a list of exclusions and assess companies against a range of social, ethical and/or environmental criteria in order to decide whether or not a company is potentially acceptable as an investment. This reduces the number of companies a fund can invest in – although the extent to which this is the case varies significantly.

Stewardship – encouraging higher environmental, social, and governance standards through responsible ownership activities

Engagement – also known as ‘stewardship’ is different from other SRI approaches as it is about the relationship an investment organisation has with the assets they hold – or could hold – rather than relating directly to buy/sell decisions. Engagement activity primarily involves using dialogue, voting and other forms of responsible shareholder activity – such as shareholder resolutions or withholding capital.
Engagement / stewardship strategies may apply to individual specific funds or across all assets held by a fund management entity.
Engagement / stewardship activity can take a long while to succeed and is typically reported on annually by managers (in varying levels of detail).
Investment companies may describe their ongoing stewardship / engagement processes in an ‘escalation plan’.
Engagement / stewardship activity may or may not lead to the exclusion of assets.
Many investors now publish ‘escalation strategies’.

Managing ESG risk

It is increasingly common for investors to aim to manage environmental, social and governance risks as these are increasingly likely to impact financial performance (also known as ‘materiality’).

In summary

Funds combine these issues in many different ways when responding to environmental and social issues.

The filter options on the FundEcoMarket tool will help you to recognise and understand individual fund strategies.