Ethical ISAs

What is an ethical ISA?

An ethical ISA is a Stocks and Shares ISA account that invests in funds that are managed in line with a particular ethical investment strategy.

They do this by excluding certain companies and industries from its underlying investments, such as gambling or tobacco production companies.

If you invest in individual shares that you pick yourself, then you just need to avoid companies in industries that you are not comfortable with.

However, if you are investing in managed or passive funds then this becomes more difficult. Your investment is controlled by a fund manager and your money is spread across many different companies that they choose.

Therefore, the term ethical ISA, or ethical Stocks and Shares ISA, usually refers to an ISA that specifically consists of ethical funds.

These are funds that are put together with certain ethical principles in mind. They will refrain from investing in certain industries or companies while still competing for the best returns in their sector.

The best ethical Stocks and Shares ISA for you will depend on several factors from performance to charges, and this guide will give you the need-to-know information before you invest.

What do ethical ISAs invest in?

Ethical funds often invest the same way as standard managed funds, with the exception of certain ethically questionable assets. Perhaps a better question to ask is: what do ethical investment ISAs not invest in?

The main industries in which ethical Stocks and Shares ISAs will avoid investing in are:

• Gambling
• Armaments
• Fur trade
• Alcohol
• Tobacco
• Pornography

Some additional factors that they will take into consideration are:

• Is the company environmentally responsible?
• Is the company socially responsible?
• Does the company treat its employees, customers and suppliers fairly and ethically?

Some funds exclude all of the above, some only a few, and what is excluded depends on the strategy of each fund.

Some ethical funds also avoid investing in industries such as oil and mining, due to the environmental impact these companies can be responsible for.

Additionally, ethical funds also exclude companies guilty of human rights violations for its employees or any other people affected by its practices.

What are some other examples of ethical investing?

Another way to identify an ethically managed fund is by the ESG (Environmental, Social and Governance) term.

An ESG fund will invest in companies that respect these three core values. Essentially, the underlying companies they invest in need to be environmentally friendly, socially responsible, and run fairly and ethically.

ESG funds usually have ‘ESG’ in the fund name so they are easily identifiable.

Do ethical ISAs perform well?

An ethical investment ISA has just as much potential to perform as well as a standard ISA investment.

While fund managers may be more limited in the companies they invest in due to their ethical requirements, there are several benefits of investing in companies that operate with ethical responsibilities in mind:

• Less likely to face regulatory fines

Government bodies and industry regulators can levy huge fines against corporations breaching ethical, social or governance rules.

Some of these fines are not to be taken lightly. They can seriously damage a company’s longevity and its reputation once the fines are made public.

A company that practices ethically as a priority is less likely to get into this kind of trouble.

• Ahead of regulatory changes

With global issues such as climate change becoming more and more of a threat every day, legislation is constantly being introduced to keep businesses operating responsibly. This includes due care for the environment and the social cultures that they affect.

The companies that are already ahead of this curve have less catching up to do. They could be the ones that thrive in their industry in the long run.

• Social Considerations

If a company treats their employees, customers or suppliers poorly, the repercussions could be detrimental to its overall success.

The media can expose unethical social practices and seriously damage the reputation of big businesses. For example, Amazon has faced intense scrutiny over the treatment of their employees and have had to take serious action to make reparations.

If customers are treated poorly, the industry regulator can step in and conduct a wide-scale review of their practices and enforce compensation where applicable.

These are the types of issues that ethical ISA funds will look to avoid. They will do this via their stock selection, and also via their own stewardship with regards to the companies they invest in.

Many fund managers will use their shareholder power to influence a company’s behaviour at shareholder votes and meetings towards an ethical and sustainable code of practice.

What are the negatives of an ethical ISA?

If you are looking for an ethical Stocks and Shares ISA then you will have less choice than with a standard investment ISA.

Although there are plenty of ethical ISA funds and investment options out there, there are no doubt fewer options than there are with standard investments.

Finding the best ethical ISA for you will depend on the underlying investments that you choose and the ongoing charges that your ISA provider will take from your portfolio.