If you’d like to invest but are concerned about your investment dollars supporting industries you don’t agree with, ethical investing may be just what you’re looking for.
Ethical investing is all about aligning your personal moral compass with your investment portfolio. Thanks to impact portfolios offered by robo-advisors and a plethora of sustainable mutual funds, ethical investing is more lucrative and easier than ever.
Ethical investing definition
Ethical investing is a strategy where an investor chooses investments based on a personal ethical code. Ethical investing strives to support industries making a positive impact, such as sustainable energy, and create an investment return. With an increase in ESG funds, there are more ethical investments than ever.
Of course, what is “ethical” depends on the person. What is ethical to you may not be to someone else. That’s why it’s important to look behind the curtain of ethical investments and make sure they align with the impact you’d like to have.
Ethical, sustainable and socially responsible investing: What’s the difference?
Not much. Ethical investing has lots of variations, including sustainable investing, socially responsible investing, green investing, impact investing and ESG investing. Most of these trend toward the same idea: creating positive change by thoughtfully and intentionally investing your money.
But how they achieve that idea varies. Some only include positive-impact investments, while others simply exclude negative-impact investments. Still others use both inclusionary and exclusionary methods. The above names for ethical investment strategies are often used interchangeably, without much consensus on which are exclusive, which are inclusive and which are both.
That’s why it’s important to understand a fund or advisor’s methodology for choosing particular investments: Some may simply exclude investments in tobacco and firearm companies and call that portfolio “sustainable” or “socially responsible” — without actually including any “sustainable” assets.
One important thing to note is that many types of ethical investing, regardless of what they’re called, use ESG investing factors — environmental, social and corporate governance — to grade specific investments along an ethical curve. For example, if you’re creating an impact portfolio with a social justice focus, you may look for investments that receive a high ESG score in the social category.
Can I make money by investing ethically?
While no investment is guaranteed, the performance of ethical funds has been shown to be similar to the performance of traditional funds — in fact, some research shows that ethical fund performance may be superior. According to Morningstar data, sustainable funds outperformed their traditional peers in 2019, with 66% finishing the year with returns in the top half of their Morningstar categories. (Morningstar is a NerdWallet advertising partner.)
The general idea is that companies that treat their employees well and are thoughtful about their environmental impact may also be better run and less prone to scandal — which can result in a material benefit. For example, companies that adhere to ESG concerns may avoid fines and lawsuits for issues such as mismanagement of toxic waste disposal, sexual assault and harrassment charges and fraudulent transactions, since they may have policies to help avoid those issues in the first place.
There is also some evidence that suggests that ethical funds may offer lower levels of market risk than traditional funds, even in volatile markets such as the downturn during the first few months of the COVID-19 pandemic. According to Morningstar data, 24 out of 26 ESG index funds outperformed comparable conventional funds during the first quarter of 2020.