Sustainable investing has been a increasingly popular choice for investors, who are aiming to achieve financial returns whilst also promoting positive environmental or social benefits. According to the Global Sustainable Investment Alliance (GSIA) global investment assets under management, with a sustainable mandate, increased from $30.7 trillion in 2018 to $35.3 trillion in 2020.
Over recent years, investors in ethical strategies have benefitted from good performance, with sustainable strategies at least matching more mainstream investment approaches. This year has, however, been less favourable for ethical investors, with performance lagging behind broad market returns generally.
On closer inspection, the reason that ethical strategies have struggled this year is quite clear. Whilst few areas of the market are doing well this year, investments in fossil fuels have seen a standout performance compared to other sectors. Russia’s invasion of Ukraine saw prices for Oil and Natural Gas surge, and coupled with ongoing supply chain issues and increased demand, market valuations of stocks in the Energy production and exploration sectors rose strongly.
To the end of September, the S&P Energy sector is the only US sector showing a positive return over 2022 to date. The outperformance has been consistent throughout the course of the year, and returns from Energy have been the single bright spot in an otherwise difficult year so far. Of course, the activities of mega-cap companies such as Exxon Mobil and Chevron mean that they are unlikely to feature in a portfolio adopting an ethical approach.
Whilst Energy has been the best performing sector overall, individual stocks in other traditionally non-ethical sectors have also performed well. Global Defence stocks, such as the UK listed BAE Systems, and US giants Lockheed Martin and Northrop Grumman, have also seen their stock well supported, as investors look to invest in companies which may benefit from increased global Government spending on defence. As with Energy, defence stocks are largely incompatible with an ethical investment approach.
Another factor impacting the performance of Ethical investment strategies so far this year has been the underperformance of Technology stocks. Sustainable investment portfolios tend to hold high allocations in Technology, Healthcare and Consumer Discretionary stocks, which are all sectors that have struggled this year. The proportions held in Technology are particularly important to consider, as this sector represents 22% of the MSCI World ESG (Environmental, Social and Governance) Index. Whilst the weight towards Tech had a positive influence on performance during 2021, the inverse has been true this year to date.
Delving a little deeper into market conditions we have seen over this year, it is evident that 2022 has been a year where value companies have been in vogue. We define value stocks as being those companies that are more defensive and mature, offering an attractive dividend yield. With the war in Ukraine and Inflation dominating Global markets, conditions are very different to those seen last year, where growth companies outperformed value stocks. Growth companies are usually defined as those with higher growth potential, but this may come with less financial strength or track record. Technology stocks tend to sit in the growth space and the general nature of markets this year has been another contributing factor to the underperformance of ethical investment strategies.
It also should be borne in mind that a number of value stocks are also unlikely to feature in an ethical portfolio. Take Tobacco stocks for example. Both British American Tobacco and Imperial Brands, who are the two largest quoted UK stocks in the sector, have shown a positive performance this year, compared to the weaker conditions seen overall.
In the face of more difficult conditions for ethical investors over the year to date, you can understand why investors might look to reconsider their ethical stance. We do not believe this is the correct approach to take. Investment is a long-term process, and whilst a great deal has happened geopolitically and economically since the start of the decade, ethical investment approaches have seen investors rewarded for their stance during both 2020 and 2021.
Over the longer term, ethical investors have every reason to feel optimistic about the future. Following the COP26 Climate Change Conference, pressure is mounting on the World’s largest corporations to play their part in combating global warming. Indeed, many are already working towards net zero carbon emissions, and with the direction of travel being clear, this in turn will force others to follow their lead. Companies that are unlikely to feature in an ethical investment approach at the current time are making strides that could see their inclusion in the future. Take Shell, for example, who announced last year their intention to halve absolute emissions by 50% by 2030, through investments in low-carbon and renewable energy.
With the focus on delivering a cleaner and greener future, it is likely that technological advance will have a significant part to play. This would tend to suggest that the longer term prospects for sustainable and ethical investment are good. Looking to the short and medium term, 2022 has been a year where Tech has struggled, though investors would be well served to look to the performance over the previous two years, where they were rewarded for taking an ethical stance.
If you are interested in ethical investment strategies, or are looking to review an existing pension or investment portfolio to see whether this fits with your personal ethical stance, speak to one of our experienced advisers here.
The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.
