Ethical investing is a strategy wherein you allocate your investment dollars according to your beliefs. For example, if you’re a supporter of environmental causes, you can consciously avoid investing in oil companies or other ecologically damaging businesses. Ethical investing, also known as socially responsible or sustainable investing, has grown in popularity in recent years. As a result, in addition to selecting your own individual equities, you can also invest ethically via a number of different mutual funds or exchange-traded funds. Here’s a quick overview of ethical investing, including its pros and cons.
Advantages of Ethical Investing
The primary advantage of ethical investing is that you can sleep at night knowing you are supporting companies that share your principles. Rather than profiting from companies that engage in unethical practices, your investment supports businesses that you believe in. And the more investors who vote with their wallets and invest in sustainable companies, the more capital those companies will attract, which can result in real change. Just take a look at how electric vehicles have moved relatively swiftly from an “environmental-only” investment to the mainstream. The same can happen for other industries with enough investor support.
Disadvantages of Ethical Investing
The primary disadvantage of ethical investing is that it by definition narrows your investment universe. As an investor, your goal is usually to generate the biggest profits you can; but if you’re limited in the choices you can make, you might miss out on some great opportunities to generate gains. For example, let’s say you’ve limited your investment universe to companies that generate clean water. This means you won’t be investing in companies like Etsy, which gained 302% in 2020, or Nvidia, which posted a 122% gain.
Methods of Ethical Investing
In decades past, ethical investors had to sift through reams of information to determine which individual stocks they could buy. Nowadays, socially responsible investing has become an asset class in and of itself. Numerous mutual funds and ETFs are available for these types of investors to select, complete with well-defined investment objectives and listings of individual holdings. In other words, there’s never been a better time to be an ethical investor, at least in terms of available investment options.
Does Ethical Investing Work?
Ethical investing certainly “works” in the sense that it draws attention to how investors can vote with their money and it provides financial support for companies in sustainable industries. As to whether socially responsible investing can consistently outperform the market, the jury is still out. There will certainly be years in which these types of companies perform remarkably well. In 2020, for example, electric vehicle maker Tesla was the single best performing stock in the entire market, returning over 740%. However, there will always be investors who seek the highest available return in the market, and this money may or may not flow into sustainable stocks. While ethical investors can seek out the highest performing stocks, funds or ETFs within that investment universe, their first priority is usually to invest only in stocks that match their ethical principles.
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