Should sustainable funds invest in defence assets?

Posted on: May 1st, 2025

Should sustainable funds invest in defence assets?

Debates around whether or not sustainable investment funds can, or should, invest in the defence sector are high profile at the moment.

This led to the FCA clarifying their position recently – which is essentially that there are no rules governing what funds or fund managers should do.  Fund managers can do as they chose.

I am no military analyst, however having spent many years working with funds that had Quaker (and Methodist) origins this is something I’ve discussed a great deal – and recognise as being important to many people.

The following are some thoughts on what financial advisers, portfolio managers and others might like to consider, starting with the basics:

Opinions vary about whether or not to invest in defence

Firstly it is important to acknowledge that much has changed recentlyhowever opinions will doubtless continue to vary.  Concerns are heightened, and longstanding certainties are now being questioned. And as defence spending looks set to increase it is fair to regard investment opportunities will increasing also.

However, we will never all agree.  Different people, including fund managers, ask different questions and have different points of view. Some people will doubtless continue to want nothing to do with the defence sector.  Others are, and will remain, enthusiastic supporters of it – meanwhile others will be between these two extremes.  This ‘middle ground‘ group is likely to have concerns that define where they ‘draw the line’ – and that line may edge up or down over time.

  • Differences in opinion are integral to why we need a wide range of ESG, responsible, sustainable, and ethical funds and portfolio options. Options of this kind blend ‘issues’ (sustainability as well as values based) with maximising ‘financial returns’ in different ways – with some strategies restricting fund manager choices more than others.
  • Sustainable and ethical funds (etc) evolved to meet the needs of people who want to make money – but not ‘at any cost’ – so a desire to avoid certain areas has been firmly embedded in retail fund options since the 1980’s.

The fact investment strategies vary is to be welcomed as it reflects the views of real people, in the real world.

From an intermediary’s perspective this points to the need to identify client preferences – in line with Consumer Duty– so that suitable options can be identified – and the risk of awkward questions being asked further down the line can be diminished.

Commitments made to clients

The second area to consider is commitments made to clients. Trust is rightly important in investment – so if a product or service has been sold with a particular set of policies managers should think carefully before making changes as trust could be undermined if ‘reasonable expectations’ are not met. Some aspects to consider include:

  • if a fund aims to focus on real world sustainability outcomes a client may be baffled if defence companies are selected – as alignment to the purpose of the fund (objectives) would be poor.
  • if a fund has explicit negative ethical screens, including military exclusions, any shift is unlikely to make sense as outflows and complaints may follow (misalignment would also be an issue here).
  • if a fund focuses on ESG risk mitigation shifting a strategy may be more straightforward – as assessment of relevant risks may have changed – and there may be scope for change.

Many funds and portfolios are a combination of the above, so in the real world this more complex.

What companies ‘do’ matters

A third area for consideration is what a company, or other asset, does.  Assets that are commonly excluded sit on the spectrum. Some are more likely to be excluded than others. Examples include:

  • companies that supply products such as food, clothing, building materials or safety equipment – some of which may be used by defence companies
  • companies that provide technology or other products that have both military and civilian uses – a distinction should be made between whether or not such products are ‘off the shelf’ or ‘bespoke’ – and whether or not they are likely to be used in weapons systems.  Also relevant is the ‘proportion of revenue’ derived from the defence sector.
  • Manufacturers of products (and suppliers of services) specifically intended for military / defence purposes – ie the defence sector.

Different funds and portfolios will have different policies for different elements of this chain, and indeed their use of language (eg military vs defence) may also vary.

Defence sector challenges

Companies that make weapons systems and other products intended specifically for defence (armaments) purposes tend to be regarded as more controversial than others essentially because their products are designed to kill people – although many will argue sensibly that deterrents play an important part in society also.

The most significant concerns  tend to focus on two core areas, with the following questions (or similar)  asked:

  • Does the company make (or might the asset help finance) ‘controversial’ weapons, as described in international agreements? (Some would argue all weapons are controversial – but these are at the top end of this spectrum). Examples include landmines, chemical weapons and cluster munitions.
  • Who is the company selling to – and who might the weapons be used against? Concerns may focus on ‘oppressive’ (non democratic) regimes.

It is understandably almost impossible to collect entirely reliable answers to these questions, as defence contractors are not renowned for their transparency – for obvious reasons. However assessments of this kind are made and fund managers have to decide whether or not uncertainty should equate to exclusions.

Looking forward

Defence may be a ‘popular’ investment theme today as a result of world events, but opinions have a habit of evolving over time.

Investors that do not make their positions sufficiently clear may find themselves vulnerable if an asset they hold falls foul of public opinion further, particularly if clients are surprised.

Other points to consider:

  • There are many ways in which people can invest in defence companies.  Sustainable and ethical funds are a minority of assets and fund options.  Commentators that indicate that reality is otherwise should be questioned to understand their motivations.
  • Retail funds (such as those listed on Fund EcoMarket) invest primarily via secondary markets.  Most do not directly ‘finance’ the defence sector, so a realistic balance of the relative importance of these strategies should be explored.
  • From a UK perspective (at least!) the defence sector relies on government funding – so investment in (or avoidance of) Gilts should be explored with interested clients.
    • Strategies vary more than many expect – for example many asset managers have company wide exclusions for controversial weapons, but have ethical or sustainable funds that invest in Gilts – ie their approach is what many might regard as ‘pragmatic’.

Understanding and selecting investment options – using Fund EcoMarket:

Fund EcoMarket filter options can help advisers, wealth managers and portfolio managers respond to their clients different options by enabling users to search the following:

Relevant fund filters (see the Social & Ethical fund filter area).:

  • ‘Invests in Gilts ‘government bonds’ (see ‘Gilts & Sovereigns area)
  • ‘Gilts / government bonds – exclude some’ (see ‘Gilts & Sovereigns area)
  • ‘Gilts / government bonds – exclude all’ (see ‘Gilts & Sovereigns area)
  • ‘Armaments manufacturers excluded’ (see ‘Ethical Values led exclusions’ area)

Relevant fund management (company wide strategy) filters (see ‘Responsible ownership – what and how?’ section)

  • ‘Controversial Weapons avoidance policy (AFM company wide)’ – (see Company Wide Exclusions area)

The strategy combinations may surprise some.

As with all filters of this kind – if a fund manager has not told us that they explicitly avoid a named activity (eg controversial weapons) it is possible they may invest in the area – although we can not know for certain. (Please contact fund managers directly if clarifying this is important to a client).

Additional note: Please be aware that some fund managers are reviewing their strategies in this area. Fund EcoMarket information comes directly from fund managers and is regularly updated however results should be confirmed directly with managers if this is important to a client.

 

FCA statement link:

https://www.fca.org.uk/news/statements/our-position-sustainability-regulations-and-uk-defence