The range of ethical funds keeps growing, and performance figures show that what is good for your conscience need not be bad for your bank balance, says Iain Morse
In April of this year, 20 ethical unit trusts owned assets worth just over pounds 1,324m. Returns from the 17 funds available five years ago show an average performance of 86.2 per cent, against an average for all UK unit trusts and open-ended investment companies (OEICs) of 76.7 per cent over the same period.

But returns on particular funds in this sector can vary and making the right choice is important. With income re-invested for growth, top performer Framlington Health increased in value by 164 per cent over a five-year period to 1st April this year. By contrast, Clerical Medical Evergreen increased in value by just 29.6 per cent over the same period.

There are also alternatives to unit and investment trusts open to ethically minded investors; a number of stockbrokers and IFAs now offer the facility to run ethical share portfolios.

According to Fleur Leach, ethical fund manager at Albert E. Sharpe: "The option of buying an ethical share portfolio is neglected by many private investors, who perhaps don't realise it is available."

Understanding the differences between these types of investment approach is a good starting point for anyone who wants to build up an ethical portfolio.

Unit trusts are "pooled investments" where a fund is set up under a legal trust, which specifies the range of shares and other types of financial instrument that can be bought or sold by the fund managers. These are "open-ended" funds: new money buys new units, and if you want to realise your holding you must redeem its value from the fund trustees.

The cost of such investments, including any commission payable to a broker, comes out of the bid/offer spread, or difference between the price at which you buy a unit and redeem its value back again. Most ethical unit trusts have spreads of between 5 and 6 per cent: Scottish Equitable comes top with 6.51 per cent, while newcomer Standard Life has cut its spread to just 3.39 per cent.

Annual management charges for ethical unit trusts are usually between 1 and 1.5 per cent, although Equitable Life has reduced this to just 0.5 per cent and Standard Life is on the low side at 0.95 per cent. City Financial Acorn ethical is top charger at 1.75 per cent.

With the exception of Abbey Life's ethical unit trust, all of those available can be purchased in a PEP wrapper. Minimum initial investments range from pounds 500 to pounds 1,000. Most allow additional top-up payments of between pounds 100 and pounds 250. Some also offer monthly savings plans ranging from just pounds 25 a month with Abtrust, up to pounds 100 a month with Friends Provident.

The ethical investment trust sector is narrow, with just three providers, Friends Provident, Jupiter, and Commercial Union. Of these, Friends Provident runs the largest with an asset value of around pounds 33m, but recent performance has been lacklustre.

According to David Bromige, of ethical IFA Bromige & Partners, the first step in fund selection is "getting a very clear idea of which areas an investor wishes to avoid and any they wish to support. This should leave a shortlist of unit trusts acceptable to them."

The best source of information on these funds, "Money & Ethics", comes from the Ethical Investment Research Service (EIRIS). This analyses each fund in terms of negative criteria investment areas they avoid, and positive criteria areas they support.

Because of screening, most ethical funds hold a high proportion of shares in small and medium-sized companies. The yield or income derived from such shares tends to be on the low side.

"Shares in large, mature companies often have low price to earnings ratios," explains Ms Leach, "rewarding shareholders with high dividends as much as the prospect of capital growth. Smaller companies, particularly those seeking to grow rapidly, will need to keep their profits to fund expansion."

This means that most ethical funds are run for growth, not income. Both Friends Provident and NPI offer income funds, but the gross yields on these fall below average yields available from non-ethical income funds.

Mr Bromige thinks the best way round this for investors is to "buy funds for growth, use your annual capital gains tax allowance, and plan to realise some of your gains each year by encashing units."

For the ethically minded with larger sums to invest - typically pounds 100,000 or more - a number of fund managers offer discretionary portfolio management services. Credit Suisse is a leader in the field, with an individually tailored portfolio.

If you want to buy and manage your own portfolio of shares EIRIS offer a share screening service, selecting stocks according to negative and positive criteria. But subscribers will have to do their own research on which shares they then buy or sell, unless they go to a stockbroker for further advice. Albert E. Sharpe offers this facility, with annual management charges of 1 per cent of portfolio value, plus dealing costs and commissions.

Contact EIRIS on 0171 735 1351 for information on their guide 'Money & Ethics.'

The Independent has produced a free 28-page 'Guide to Ethical Finances' by Nic Cicutti, the paper's personal finance editor, and sponsored by Friend's Provident. Call 0800 214487, or fill in the coupon on page 4.