Citywire NMA – True Survivors: Ethical Portfolios for Pragmatists

‘One of the biggest challenges we face is creating ESG portfolios for clients who are auto-enrolled in workplace pension schemes,’ he said.

‘There is a cost cap on a lot of workplace pensions, which means the majority of ESG funds have to be stripped out,’ Chan explained. ‘The available choice can be so small that there are no ethical or socially-responsible investment options at all. And those pensions that do offer ESG investment options may only be invested in a specific area of the economy. This puts the rest of the pension at risk if that area tanks.’

All ethical mandates require action from the manager, whether filtering out firms, interviewing with companies or other forms of engagement.

‘ESG fund managers have had to become a lot more transparent over the last few years. They can’t get away with not actively engaging with their holdings,’ said Chan. ‘Many produce annual reports that demonstrate this engagement, highlight any action they have taken to change companies’ behaviour and explain why they are invested in each holding.’

Defining ‘Ethical’

For clients who want an ethical service, there is another problem: no one’s definition of ‘ethical’ is the same, so it is difficult to accurately predict costs. While some people are happy to accept the flexibility of a diversified portfolio that broadly meets their ethical goals, others are pickier about where their money is invested.

‘When we construct client portfolios, it is important to ensure clients are aware there is no black and white definition of “ethical”,’ he said.

‘Most ESG funds have some exclusion policy as a minimum – for example, they won’t invest in gambling, tobacco or weaponry. Some will do more than that, such as channelling money into certain sectors to tackle specific issues.

‘We need to ensure the portfolio isn’t taking too much risk and is well-diversified, and if a client has a lot of exclusions or criteria overlaying that, it makes our job incredibly tough.’