Is ethical investing good for your portfolio? Read to find out

Ethical investing can be practised by avoiding sin stocks or investing in impact making businesses.

Investing ethically is the awareness or presence of knowledge of what your money is doing and what it is funding. Ethical investment, sometimes also called sustainable investment and socially responsible investment (SRI), is a term that describes an investment process that applies environmental and social factors when selecting investments.

On top of that, it also has the objective of accomplishing a competitive financial return. Wikipedia defines it as “any investment strategy which seeks to consider both financial return and social/environmental good to bring about social change regarded as positive by proponents”. But unfortunately, there is no industry-standard definition of ethical investing.

With so many different variations for the ethical investment term, it is no surprise that a portfolio manager can’t get certified in ethical investing. It is not even controlled and administered by the government, although supporting groups are trying to persuade the government to change that. The ethical investment portfolio of one investment management company might include a completely altered slate of stocks than another.

With not a broad definition to define it or a fixed body to control it, it is up to you to determine what is ethical or not. You can be the best judge of what is ethical and valid for you. 

Related: 6 Practical strategies to help reduce investment risk

Two Ways of Ethical Investing 

Although there are many ways of ethical investing, experts have agreed on the two best possible ways of ethical investing. These are:

• Avoiding Sin Stock:

According to a definition by Investopedia “A sin stock refers to a publicly-traded company that is either involved in or associated with an activity that is considered to be unethical or immoral”. It can range from investing in various stuff which is considered unethical like cigarette companies or alcohol companies or companies owning casinos. 

Sin companies are often subject to additional taxes or regulations. Tobacco products are subject to special taxes, and many states administer a more regulated distribution system for alcoholic products. Similarly, gambling is often limited to certain geographic locations and require certain specific licensing. However, these regulations often help entrench the incumbent companies, making them look very attractive. 

• Impact Investing:

Impact investments are made with the intent of generating positive, measurable social and environmental impact with a fiscal return. Impact investments can be availed in both emerging and developed markets and aim at a range of returns from downmarket to market rate, depending on investors' specific goals. There are several social enterprises in India which have been making a tangible difference in the lives of those who are less fortunate. There are discussions at the highest levels to create a social stock exchange that will list such firms. There have also been instances of firms from the microfinance space being listed in the past or securing banking license and then getting listed. 

Investors’ approach to impact measurement will differ based upon their targets and capabilities, and the choice of what to measure usually shows an investor’s goals and, inevitably, the investor’s intention. In general, components of impact measurement for investing include:

• Establishing and stating social and environmental objectives to relevant stakeholders
• Setting analytic metrics/targets related to these goals using standard metrics wherever possible
• Observing and managing the performance of investees against these objectives
• counselling about social and environmental performance to relevant stakeholders and shareholders.

Related:  Important things to know before investing in the stock market

Scope of Ethical Investment in India:

In order to invest in the Indian market, one may need greater transparency in social, environmental and governance factors. There are a few colossal companies and banks that will provide good investment opportunities. However, one must be very cautious in emerging markets. 

There are a lot of varied database services that may provide good detail on environmental, governance and social factors in Europe, USA and other developed markets. We need larger amounts of those database services in emerging markets so that the data can be verified and cross-checked. That will help to feel comfortable to move more assets in emerging markets like India. 

Presently it is full of hassles for socially responsible investors to put a significantly large portion of their investment in a developing market because of the lack of information. But if you are concerned over ethical investing, you can look through the records of prospective companies where you intend to invest and look for any malicious activity. 

The status of ethical investing in India

In India, ethical investing is yet to be formalised on a larger scale. However, the size of ethical investing in India is estimated to be $30 billion. But steps are being taken by large players to grow this sector which is predicted to touch $240 billion within the next decade.

Presently, there are few mutual funds such as Tata Ethical and Taurus Ethical Fund, SBI Magnum Equity ESG Fund and an exchange-traded fund such as Reliance Sharia ETF BeEs which enable retail investors in India to practice ethical investing. As on 30th April 2019, the combined AUM by these funds is less than Rs 600 crore.  In April 2018, Kotak Mutual Fund became the first asset management company in India to sign the UN-backed Principles for Responsible Investment (PRI). PRI is a global network of investors which has been leading the initiative to integrate ethical practices into investing.

In the institutional space, former Tata executives have come together with Quantum Advisors to launch a $1 billion ESG fund. It would be investing $30-$50 million in small and mid-cap Indian companies for 8% to 9% stake. Due to SEBI listing regulations and other reporting requirements, Indian companies have been reporting their compliance towards social, environmental and governance norms.

Limitations of Ethical Investment

The definition of ethical is highly subjective, and the meaning may differ to your co-worker. In general, it is tough to know what is ethical, and you might end up regretting a dicey investment you made. Ethical investments require a lot of time and research; it is filled with a ton of red tape and paperwork and requires a mountain of effort. Due to all the time and effort put in searching for ethical investments, it generally requires a much higher fee than usual investment. 

Related: 5 Rules you must follow when buying stocks

So, the question is, “Is Ethical Investing Good for Your Portfolio?”

According to Economic Times “While the debate over its prospects over the long-term continues, its success has brought 'ethical investing' back in the news.”. So, yes! Ethical investing is worth going through all the hassle as it really might look good on your portfolio. 

Have a look at the beginner’s guide to capital markets to understand the nuances involved in investing and the pertaining market risks.