Ethics man adopts a moral approach to the market: Around pounds 100bn is invested in Britain with some form of social objective in mind. Paul Gosling investigates

THE BIGGEST growth opportunity in the financial services market is for products invested using ethical criteria, according to independent financial agents (IFAs) who already specialise in this area. This view is supported by the latest annual results of the Co-operative Bank, which turned a pounds 6m loss into a pounds 10m pre-tax profit on the back of an advertising campaign stressing its ethical stance, rejecting trade with businesses involved in, for example, armaments, support for oppressive governments and animal cruelty.

The Co-operative Bank has found that increased deposits have also led to higher demand for financial services such as pensions and unit trusts that are ethically monitored. A spokesman says this reflects 'what is called the second bottom line, which is an increasing topic of conversation at the moment'.

It would be unwise to dismiss ethicals as marginal to the financial services market, though the statistics might suggest they are. Figures compiled by Ethical Investment Research Services (Eiris) show that, as of July 1992, in a unit trust market valued at pounds 56.8bn, just pounds 321m was in ethicals, little more than half of 1 per cent. This has since risen to pounds 400m, indicating the constant rate of growth in this sector.

Other figures, compiled by institutional investment advisers Pension and Investment Research Consultants (PIRC), indicate that in total pounds 100bn is invested in Britain with some form of social objective in mind. This figure is arrived at by adding together the pounds 60bn of pension funds that would not invest in South Africa with the ethical funds and the venture capital funds that have social objectives.

Demand for ethical products is strong, but there are just 14 IFAs specialising in ethicals according to Eiris. The result is some very lucrative business. Lee Coates operates the Ethical Investors Group from his bedroom in Cheltenham, advising solely on ethicals. 'Other financial advisers go round town laughing at me, but I doubt whether any of them has taken pounds 900,000 in the first four months of the year,' he says.

'It will be the dominating factor in the future. I believe it will be the way all investment will go. It is only ignorance that stops most investment being ethical. Most advisers who now mention ethicals say that the majority of clients welcome the offer and put some (investment) into ethicals. If you accept the scenario that we must pull out of the environmental crisis, then corporations will have to change. So why not put money into companies that are already doing something about it rather than those who will have to spend millions of pounds to catch up?'

The strong performance of ethical funds helps their case. Stuart Bell, research director of PIRC, says: 'They have a strong asset growth, far stronger than unit trusts in general. Contrary to what is often said, ethicals tend to out-perform non-ethicals over the medium and longer term. This reflects the investment of ethicals in smaller capitalised companies. Most ethical funds have South Africa exclusions, which tends to knock out most larger companies. However, both ethical and non-ethical trusts under-perform against the FT All-share Index, because of front-loaded management fees.'

This view finds an echo in research conducted jointly last year by Barra International and Eiris. Looking at a period when smaller companies performed less well than larger corporations, their analysis found that ethical investments performed worse than the FT Index. They concluded, however, that this might be different over a period when the small business sector was stronger.

Peter Webster, executive director of Eiris, says there are two reasons why agents should consider moving into the ethical market. 'Ethical funds under management grow faster than other funds or remain static when others fall. And there are not enough financial advisers asking clients if they want ethicals. It seems to me that putting a quaker's money into armaments, or a doctor's money into tobacco, is a case of not knowing your clients. Research shows that 30 to 40 per cent of clients will say yes to ethicals if you ask them, but if you wait for them only one in a hundred will dare to mention it.

'None of the IFAs that specialise in ethicals feel they are in competition, as there is plenty of space in the market for more. Unit trusts have had a bad time in the last few years, which means there are few new unit trusts being started, so there are not many new ethicals. If the market picks up then there will be more ethical unit trusts. A significant part of growth is the link with personal pensions, endowment mortgages and personal equity plans.'

Mike Daniels is principal of Kingswood Consultants, an ethical specialist IFA. 'The future is very good indeed. There is a growing awareness. The corporate governance of leading business is showing the way, for example the environmental audit of NatWest, and the awareness of EC directives. Ethical and green investments will fit into this new culture very nicely. I see far more informed opinions coming from our clients, who tend to be the younger professionals. As demand rises so the products will get better. It is the fastest growing element of our business - it has definitely been against the trend (of the financial services sector). We offer a bespoke service, which is growing in importance, and more customers are looking for their direct equity portfolios to be screened as well.'

One of the important trends in ethicals is the move away from negative screening and on to positive investment. For example, a few years ago decisions were often based on avoidance of South Africa and armaments. Today funds are looking to invest in growth areas which have a positive social effect, such as clean energy production.

Mercury Provident has for years been in the lead in the ethical market; established in 1974 as an ethical bank, it has now established an associate company dealing with ethical financial services. Throughout its life it has only invested in businesses that meet its social objectives, in line with the ideas of the radical educationalist Rudolf Steiner. Interest rates fail to match those of the purely commercial sector, but deposits have always been heavy enough to enable the loans to be made.

Significantly Mercury's bad debts have been negligible. With over 1,000 loans approved only two have ever gone bad, though loan guarantees have sometimes been called in. The loan portfolio today includes a wind farm, organic gardens and recycling businesses. Glen Saunders, executive director of Mercury Provident, says: 'We have continued to grow, we're still small, but we've grown quite rapidly in recent years. We've had a pension fund working for over 15 years, and we're putting a lot of effort into another two pensions that we recently launched. These involve negative screening of stock market funds, but we want some to go as positive investment, directly into Mercury, into the projects that we support. It can only be a proportion in order to generate enough income, but it deals with the problem of how to make positive investments.'

Mercury says that its key advantage is its transparency, with regularly published documents detailing where the investments are placed. Mercury's move into financial services is not limited to pensions, but also involves insurance policies as introducers to Sturdy Edwards brokers, with a proportion of the commission going to charities.

Giving away commission is not unique to Mercury. Lee Coates also distributes half of his commission to charities and other groups with social aims, with the beneficiaries chosen in discussion with his clients. Now that really is ethical.

(Photograph omitted)

Independent Partners; Do you need financial advice on your investments, pension or insurance? Book a free consultation with an independent Financial Adviser at VouchedFor.co.uk

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