Even a blue-chip share can be green

Performance is a major concern for any investor. Even though past performance is no guide to the future, investors continue to choose funds and stocks largely on this basis. Research indicates that 84 per cent of investors regard returns as their main priority.

Performance is a major concern for any investor. Even though past performance is no guide to the future, investors continue to choose funds and stocks largely on this basis. Research indicates that 84 per cent of investors regard returns as their main priority.

Even though ethical funds have been around for years, many investors have avoided them, considering them not "mainstream" enough - virtuous but eccentric was the image they conveyed. Not that long ago investing ethically meant avoiding companies involved in activities of which you disapproved, for example, arms manufacturing, testing products on animals and producing tobacco. Dark-green, purist funds, such as Jupiter Ecology, Friends Provident Stewardship and NPI Global Care, offered investors the chance to avoid such companies.

But this strict approach is changing, which is why ethical investing is becoming increasingly popular.

"We always raise the question with clients when they first come to us," says Kay Lowe, partner at independent financial adviser Equal Partners. "A growing number of people are keen to invest ethically but are not sure of the best way of doing so."

In theory, ethical invest-ments sacrifice performance to conscience, even though many of these funds have shown strong performance. But with socially responsible investment (SRI), funds tend not to put principles before returns. The selection criteria vary between investment houses, with some stricter than others.

The growth of SRI means the new range of funds is less strict than the dark-green variety. But, on the whole, ethical investors are still happy to put their money in them. This is because they regard investing in a firm that has some questionable practices as a positive move - it is only from "inside" a company that many things can be changed. Instead of taking part in demonstrations, these new protesters are using their power as shareholders to persuade companies to change their ways.

And investors are also happy because such funds are more diversified. SRI funds are regarded with less suspicion than dark-green funds because investors, quite rightly, argue that a wider-ranging fund means less volatility and, therefore, better returns.

The strong performance of ethical funds is due, in part, to the fact that most include large, respectable blue-chip companies, not just speculative smaller firms.

"We are not necessarily talking about smaller stocks," says Russ Brady at CIS. "Some of the companies that qualify for SRI funds are mainstream blue chips. In the early days, some investors did get confused and failed to realise this."

Figures from Standard & Poor's (see table below) show that ethical and ecology funds have performed strongly over the past three years. Equitable Ethical has produced returns of just under 73 per cent over the three-year period, while Scottish Widows Environmental and Jupiter Ecology both produced returns of more than 50 per cent.

Over the past five years, the ethical fund sector has in fact outperformed general unit trusts, producing returns of 75 per cent, compared with an average growth rate across all unit trusts and open-ended investment companies of 64 per cent.

According to Moneyfacts, a lump sum of £1,000 invested in Jupiter Ecology five years ago would have been worth £2,260 at the end of last year.

But Mr Brady warns that although it is possible to get good returns, investors need to look carefully at exactly what they are investing in before taking the plunge.

"People need to dig beneath the surface," he says. "Performance will depend upon the fund's objectives and upon the investment criteria. These objectives do vary so if you are investing in an ethical fund you need to make sure you know where the fund manager is coming from."

He adds that the growing acceptance of SRI means that the share prices of companies these funds invest in are improving. "Supply and demand comes into play," he says. "New funds are launching at quite a pace and fund managers are opting for certain stocks, which are becoming more fashionable. This is reflected in the share price."

This situation is also encouraging the growth of the ethical individual savings account (ISA) market. There are now 38 ethical funds that can be held in an ISA, compared with the 27 available last February.

To reduce volatility, investors need to take a medium to long-term view when investing in ethical or SRI funds.

"Over the medium to long term the sector has produced attractive returns," says Mr Brady. "But it is not a short-term investment. The good thing is that people who tend to go down the ethical route have deep-seated beliefs so aren't likely to dip in and out of stocks in the hope of making a quick buck."

Ms Lowe advises that first-time investors in ethical funds opt for a mix, rather than a pure ethical investment.

"Unless you're a real purist, it's wise to spread your investment risk," she says. "For example, you could test the water by putting 30 or 40 per cent of your investment in the Jupiter Environmental fund, and investing the remainder in one of Jupiter's more general growth funds. Then, once you feel more comfortable with the sector, you could switch more into the Environmental fund if you wished." Ms Lowe also recommends the Credit Suisse Fellowship fund, along with NPI Global Care.