Ethical Investing - Overview, Types, Advantages, Disadvantages (2024)

What Is Ethical Investing?

By purchasing stock, you become a partial owner of the company. Even if it is not your intention, by becoming a shareholder, you are supporting the company and what they do.

Ethical investing is a strategy that prioritizes ethics first and profitable returns second. This strategy intends to align your portfolio with your moral compass.

It prioritizes four values that an individual could have:

1. Moral
2. Religious
3. Social
4. Political

Ethical investors value companies that align with the industries, characteristics, business practices, etc., they support. This could include companies that treat their employees respectfully, promote sustainable practices, or create healthy products.

Each investor has their ethical code. Investing in companies that embody those principles makes some people feel better that they’re supporting companies with good intentions.

Some investors may avoid investing in particular industries that are consideredsin stocks. Traditionally controversial industries include gambling, alcohol, drugs, and firearms.

Information is abundant regarding companies’ practices, and there are a plethora of mutual funds focused on socially-conscious investments. This has made ethical investing more accessible than ever before.

History of Ethical Investing

Ethical investing has origins in the 18th century in the United States. The Quakers prohibited members from devoting time or money to the slave trade because it contradicted their values.

Another example from the 18th century was religiously motivated. John Wesley, one of the founders of Methodism, preached that one should not harm one’s neighbor. This religious view opposed industries such as chemical plants that have harmful health repercussions.

Earlier ethical investing was primarily reinforced by religious beliefs, but since the 20th century, it has become based more on social views. Social and political beliefs generally coincide with current events.

For example, in the 1960s, ethical investors in the United States supported companies that promoted equality and condemned those that supported or profited from the Vietnam War.

Environmental sustainability has become more popular among socially conscious investors in recent decades, as clean energy and climate change have become more prominent issues.

Ethical investing may not be for every individual as it is not as passive as traditional investing and may not promise as high returns.

How to Invest Ethically

Some of the ways to invest ethically are:

1. When building a portfolio that aligns with your values, you can either create your own or enlist the help of professionals. Robo-advisors and actively managed mutual funds are options for assistance but often come with fees.
2. It would help to consider what companies align with your social, political, moral, and religious values. Establishing standards for a company, such as certain sustainable practices, can aid investment decisions.
3. Once you establish your values, stock screeners can be valuable tools to find investments that are right for you. Additionally, independent research firms such as Morningstar can provide valuable qualitative and quantitative measurements.

When evaluating a company before purchasing shares, it’s important to analyze its financial records and projected performance. Companies that align with your values do not necessarily mean the company is profitable and will be a wise investment.

It’s also important to still maintain a diversified portfolio, limiting the amount of risk you take on. For example, if you want to invest in a company that pursues sustainable environmental practices, this stock should not occupy too much of your portfolio.

Exchange-traded funds are an option for providing diversification because it is a bundle of assets. Numerous ETFs are designed around ethical investing principles.

Be aware of companies that mislead investors about their values. One example is greenwashing. This is when a firm falsely promotes eco-friendly practices. Reading news articles about the company can be one method of uncovering misleading information.

For example, Coca-Cola was subjected to heavy criticism because it promoted sustainable practices they were pursuing even though it is also one of the leading producers of plastic pollution in the world.

Advantages and Disadvantages of Ethical Investing

Some of the advantages are:

• Investing in stocks that align with your ethical and moral values can have emotional benefits because you know that your portfolio represents characteristics important to you.
• As ethical investing becomes more common, companies with ethical values will likely sell more shares. Not only will your investment grow in value, but the company will have more capital to maintain its ethical practices.
• If ethical investing gains a stronger foothold worldwide, it will encourage other companies to pursue ethical practices.

The disadvantages include:

• Ethical investing is more time-consuming because it requires more research to ensure the company aligns with your values.
• Depending on the investment, you may sacrifice financial returns for ethical investing. For example, a tobacco company could be a strong performer, which may contradict your values.
• By boycotting a company you believe to be unethical, you are reducing the stock price because the number of potential shareholders is reduced. As a result, the stock becomes more attractive to other investors.
• It could restrict your investment options if there are certain sectors you will not invest in.
• Some ethical investment funds come with higher fees than standard managed funds.

Types of Ethical Investments

The different types of investments are:

1. Socially Responsible Investing Funds (SRI Funds)

These funds prioritize moral values that generally avoid sin stocks, i.e., businesses involved in gambling, firearms, tobacco, alcohol, and oil. SRI, also known as social investment, intends to support companies with a positive social impact.

SRI funds tend to mimic the current social and political climate.

One example of socially responsible investing is community investing. This means investing in a company with a track record of helping the community or pursuing alternative energy/clean technology efforts.

Examples of SRI funds:

• 1919 Socially Responsive Balanced Fund (SSIAX)
• Parnassus Core Equity Fund Investor Shares (PRBLX)
• Vanguard FTSE Social Index Fund Admiral Shares (VFTAX)

2. Environmental, Social, and Governance Funds (ESG Funds)

ESG funds value companies with policies to protect the environment, social criteria demonstrating respect for their employees, and leadership policies ensuring transparency and integrity.

Examples of ESG issues that a company could pursue are the diversity and inclusion policies they promote or maximizing the sustainability of their supply chain.

Examples of ESG funds:

• iShares Global Clean Energy ETF (ICLN)
• Fidelity US Sustainability (FITLX)
• iShares MSCI USA ESG Select ETF (SUSA)

3. Impact Funds

These funds value financial gains as much as the social or environmental effect the company has. SRI and ESG funds are two approaches to impact investing. Impact investing values a company’s commitment to corporate social responsibility.

Impact investing intends to create a positive, measurable social and environmental impact along with strong financial performance.

Examples of impact investing on a corporate level:

• The Gates Foundation
• Soros Economic Development Fund
• The Ford Foundation

Examples of impact funds:

• Parnassus Endeavor Investor (PARWX)
• Vanguard FTSE Social Index I (VFTNX)
• Domini Impact Equity Investor (DSEFX)

3. Faith-based Funds

These funds align with religious values, such as avoiding companies that are involved in alcohol, tobacco, and weapons. Investment decisions depend on religious affiliation but can also include moral and ethical considerations.

Researched and authored by Jackson Hartz | LinkedIn

Reviewed and edited by James Fazeli-Sinaki | LinkedIn

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