Imfino News

Vienna, December 19, 2018 - When it comes to investing, ever more people aim not only for a financial return, but for combining profit with making a positive contribution to climate and environmental protection, ethical or social issues. Those investors favour sustainable or ethical-ecological financial products over traditional ones. However, the crucial question is always how to evaluate sustainability? Of course, there are the ESG criteria (Environment, Social and Governance), which, however, constitute more a general framework than a detailed catalogue of detailed and universally applicable indicators for sustainability. And this is the problem: there is still no universal definition of sustainability.

This creates a lot of uncertainty for those who would like to invest in sustainability – how are they to know whether their investments really are sustainable if the investment companies and brokers can simply define for themselves what sustainability means and then go on to label their products accordingly. The lack of general standards puts potential investors in a position where they must either trust the information volunteered by those who offer the financial products in question or invest the time and effort of to do the research themselves.

General Approaches

In the category of ethical-ecological, social and sustainable investments, four general investment approaches can be differentiated:

-         Targeted investments, where certain criteria are established which define in which sustainability-committed businesses to invest, for instance, companies in the field of renewable energy or those which address crucial social challenges.

-         Exclusion of investments – for instance into sectors such as nuclear energy, weapons or tobacco, companies associated with child labor, etc.

-         Best-in-Class investments – here, the providers of financial products select those companies that are exemplary within their sector regarding social and ecological standards. However, no sector is per se excluded – meaning that weapons, tobacco and such companies can also be part of an investment portfolio. The idea behind this is that even within fundamentally non-sustainable sectors, those companies that strive to maintain a certain ethical and social standard, are rewarded – in the hope that other companies from this sector will follow suit and match the conduct of those that are rated “best-in-class”.

-         Commitment – Financial service providers such as insurance companies, investment companies or banks negotiate directly with stock corporations or exert their influence as shareholders to integrate environmental or social standards into the company policy.

Investment funds tend to combine the different approaches in putting together their portfolios. Whether the ethical, social or ecological demands are met is decided by so-called sustainability rating agencies that are sometimes part of the investment company itself. The company also evaluates whether the investment portfolio has the capacity of being economically viable. This is after all an important criterion that applies to ethical-ecological investing as much as to traditional investment forms. 

Chances and Risks

Generally, the ethical-ecological investment options harbour the same chances of success or risk of failure than traditional investment forms. Chances and risks depend to a great extent on the type of investment. Investors must determine for themselves what their needs are regarding return, security or liquidity. Expectations of higher return come with higher risks. However, the sustainability analysis can also serve as a kind of early warning system – it may show that a company is badly managed. In this sense, the development of sustainable portfolios can even be more stable in the long run. 

How to Assess Sustainability?

The most difficult question to answer in connection with ethical, social and ecological investing is still how to assess or evaluate the sustainability of such an investment portfolio.

This is a rapidly expanding market, which means that the range of available financial products is very broad. On the one hand, this is good as it gives investors many options for finding products that match their needs and preferences. The downside is that this growing ethical, social and ecological investment market is becoming ever more complex and confusing and that it consequently becomes harder to make the right choices.

One problem is also that the sustainability aspect is frequently misrepresented – since the financial service providers assess the sustainability of their portfolios themselves, nothing prevents them from presenting their products as being more sustainable than they really are. “Greenwashing” is the term that is used for this practice – which means that investors need to take a closer look before they commit to a specific product.

In addition, whether a product meets the sustainability criteria of the investor mainly depends on the latter’s interpretation and expectation regarding what constitutes an ethically, socially and ecologically sound financial product. This can be quite complex and very individual – while one investor might consider it enough to rule out industries such as tobacco, weapons and suchlike, another may insist that companies affiliated with these businesses, like subsidiaries, suppliers, etc. be excluded from the portfolio as well.

How then is it possible to get reliable information about a financial service provider’s sustainability record? Mostly, such information is well hidden in the annual reports of the respective businesses – which makes it quite complicated and time-consuming to do the research. More helpful in offering a quick overview are private quality labels such as the German FNG label from the Forum für Nachhaltige Geldanlagen (Forum for Sustainable Investments) or the internet portal Ecoreporter https://www.ecoreporter.de/. However, these labels are applied according to standards that the respective private organizations have defined. Some of these are very strict, while others only define minimal standards.