Can investing in fossil fuels ever be ethical?
Our response to this topical and challenging question was to see how the main ethical investment providers in the UK currently engage with the oil and gas sector and how companies in this sector might feature within those funds which form the core of most ethical portfolios.
Firstly, it is useful to understand how different ethical funds approach ethical investment. There are a number of different techniques that fund managers use to construct and run ethical investment portfolios.
The starting point is usually that a negative screen is employed where companies that are deemed to have a detrimental impact in either what they produce or how they go about it are screened out. This means that sectors like arms, tobacco, alcohol, gambling and Nuclear Power are screened out altogether. Then there is the positive screen where the reverse is true in that companies that are deemed to be having a positive impact are sought out for investment. This can include sectors like renewable energy, waste management and public transport.
These approaches screen out the worst offenders and provide a positive focus for companies, but leave a lot of investable companies which have some positive aspects and some negatives aspects. For these companies a number of different strategies are employed. One of these is engagement where a fund manager will enter into a relationship with the companies he or she invests in and seek to influence corporate behaviour by a variety of methods including voting at AGMs and lobbying the board of directors. Ultimately if the company does not respond or the behaviours worsen the fund manager has the power to dis-invest.
Another approach is ‘best of sector’ where the company that is selected from any particular sector is deemed to demonstrate best practice in the most number of aspects in which it conducts its affairs. A further development from the best of sector approach, investment managers who invest on the basis of the sustainability of a company will rate a company on the quality of their management and governance and on the sustainability of their practices and processes.
The idea of using such techniques as engagement and best of sector as well as the screens, means that an ethically screened investment portfolio will have sufficient diversification. It will also have access to enough sectors so that the financial dimension of the investment is not too weak and volatile and the investor does not lose out on financial returns compared to non-screened funds.
It is for this reason that many ethically screened funds have allowed investments in Gas companies. The main argument is that screening out all fossil fuels would have a detrimental impact on performance (Oil, Gas and mining account for around 25% of the FTSE 100), so as a compromise the fund manager avoids oil and coal but allows gas as it is seen as the bridging fuel to a carbon free economy – the main point being that the levels of CO2 produced are much less than Oil and Coal.
The decarbonisation of the economy is going to take a plethora of energy sources, including gas – certainly in the short to medium term -, to ensure national commitments are met with respect to greenhouse gas emissions. In the context of the debate around fossil fuel exploration and extraction, the two most dominant ethical approaches are negative screening and best of sector.