Emotions and the rise of ethical investing

[HarleyJamesOrchard]

So far in my investing journey I have learnt many things and today I hope I can share with some other newcomers something very important when it comes to investing- emotions.

Emotions make us human, without them we would be cold, lifeless machines, but when it comes to investing, it appears emotions can create real issues for new investors (like myself).

I’ll give you my own example:

I have adopted a strategy of dollar cost averaging my index funds, allocation 3/4 to a target retirement fund on vanguard and the other 1/4 to another focusing on the FTSE 100. This strategy means;

A) I can hopefully reduce my average price per unit over time which will in turn increase my percentage gain

and

B) I take out the emotion of investing a lump sum. Today I’m down ~2.5% overall which for me equates to an unrealised loss of £10, but if I originally invested £10,000 as a lump that would be £250.

Let’s discuss these points further.

Point A allows me to take emotions out of the equation by allocating a certain amount each month to a named fund, if the price is down relative to previous purchase price (which means I have an unrealised loss) I can purchase units cheaper, if the price is up I have an unrealised gain (most of the time) and although I’ll be paying more for the same amount I’m sticking to my guns and strategy- “time in the market beats timing the market”.

Point B also allows me to take emotions out of the equation. Of course, after some time with dollar cost averaging the investor will experience unrealised losses as big as or bigger than this amount, 2.5% is nothing after all however by that time, they will have developed their skills and knowledge and be able to handle the situation better, rather than thinking “I should sell and avoid more losses” they may begin to think “I can hold and wait for it to recover, or buy more at this cheaper price”. Until that time, loosing £10 will seem insignificant in comparison to £250, but for new investors, the beginning is the most important, as a bad experience will likely cause you to turn your back on investing all together.

Note:

Point B applies only to index funds, individual stocks will need to be carefully analysed by the investor, and if the criteria by which they originally invested is no longer met, they should consider reviewing their position.

Now, giving this insight to new investors was not the purpose of this post, beginning a discussion on emerging “ethically friendly investments” was. I saw a survey the other day which found sizeable portions of people would consider these and 18-25 year olds would the most. (I’ve forgotten my source, it could be the FT weekend or Sunday times financial, apologies)

Whilst this seems like a great idea, and the right thing to do, it may not necessarily equate to financial gains. There seems a high chance, due to the fact so many of the users here are first time investors and in turn of a young age, they too would be all for ethical investments. Now I’m not saying I don’t want to save the world and actively invest money in companies that harm it (via indexes) - I’m merely suggesting that choosing funds should not be made on an emotional basis.

This is because emotions can hinder your gains, the same emotions that tell you to sell the moment your down a few quid might be the same ones telling you to buy a fund because it’s ethical.

Firstly, look at the funds history, does it generally outperform the S&P 500?* What is the management fee? I ask these two on the basis of A) this fund is a general benchmark and B) firms may attempt to take advantage of peoples good nature.

*Past performance is not an indicator of future results.

What’s everyone else’s thoughts? Can you see ethical funds dominating in the future? Personally I think ethical investments will become a lot more popular with time, fees will likely reduce because of this, as for performance I cannot say.

This is hopefully the first post of many, feedback and discussion is welcome.

Edit: I have just remembered Free trade isn’t really about index’s however I think the general points can be transferred over to stocks for ethical companies vs not necessarily ethical ones, and my assumption most people starting out will opt for index’s as a base rather than individual stocks.

[Rat_au_van (Emma)]

Finance and emotion and tied, I couldn’t invest in anything connected to Rupert Murdoch for example, and I like the idea of ethical investment. But I also don’t like the idea of loosing my money on a fad, so it’s something I’m watching at the moment. I’ve read plenty of commentary saying it’s the next big thing, but I’ve heard that about so many things (minidiscs anyone?). Old and cynical these days
I’m down 5% but I know it’s how the market works and I’m not concerned, in it for the the long haul.

[HarleyJamesOrchard]

Yes, I see what you mean. Having money in something which causes or is involved in unethical events will only reduce the value, however these can become the best times to purchase (if they recover) and capitalise on these events- but it’s likely these will only work with big, established companies- something like an oil spill from BP would come to mind, sure the damage is very bad- but if it resulted in a lower share price, the opportunity is undeniable.

[Rat_au_van (Emma)]

From a purely non emotional point of view that would be logical. Is there an investment term equivalent to ambulance chasing?

[HarleyJamesOrchard]

haha, I don’t think so, but so far I have noticed two opportunities for this without acting (still waiting for freetrade). The first was Nike with the advert, when the price dropped a small amount then corrected, which was a great opportunity for investing (purchasing to hold, nike is a pretty stable company) the second was tesla last Friday which was a great opportunity for trading (buying cheap, selling when it hit profit which was about 17% next day)

[Rat_au_van (Emma)]

Short term drops are really hard to predict. You could think it’s at its lowest and then Trump or Elon will tweet something else and another 10% is gone. Risky

[Freetrade_Team1 (Freetrade_Team)]

@HarleyJamesOrchard

haha, I don’t think so, but so far I have noticed two opportunities for this without acting (still waiting for freetrade). The first was Nike with the advert, when the price dropped a small amount then corrected, which was a great opportunity for investing (purchasing to hold, nike is a pretty stable company) the second was tesla last Friday which was a great opportunity for trading (buying cheap, selling when it hit profit which was about 17% next day)

To echo what Emma said, I’d be vary wary of this type of thing, you could come up with a perfectly sensible explanation for why Nike’s Kaepernick endorsement was a bad idea or a good idea, for example. So I consider ‘buying the dip’ or buying the rumour e.g. the Tilray situation, as pretty similar to gambling because I think it’s practically impossible to accurately predict what the market’s reaction will be.

On the other hand, if you believed that the endorsement was a smart decision for their business long term, then it might have made sense to have invested in Nike after the advert aired.

I’m a fan of ethical investing for two reasons. Firstly I don’t want to contribute to making the world a worse place. That’s obviously quite a subjective standard & has a relatively high chance of being influenced by emotion but it can be fairly clear cut e.g. tobacco companies kill people.

But perhaps the more calculated reason to invest in ethical companies is that long term, unethical companies business models may end up being unsustainable. So if you agree with the overwhelming scientific consensus that global warming is a thing, then it might be sensible to avoid investing in oil & invest in renewable energy instead because you think that eventually we’ll have to decrease our consumption of fossil fuel. Or at some point, the total amount of tobacco consumption may be reduced, due to regulation.

Some people may not want to bother with trying to figure out which companies are or aren’t ethical, (after all, Nike’s had it’s issues with it’s manufacturing practises too) but overall I think it’s good that some investors are trying to take this into account. I hope that Freetrade will come up with a way to help investors identify ethical companies, to make investing in them more easy.

[lucas]

Couldn’t agree more.

[HarleyJamesOrchard]

Thanks for adding to the discussion Alex,

I can see why it is comparable to gambling and obviously in those kinds of situation could go either way, from what I’ve read from Graham and Mr Buffet one of their approaches is to buy big prominent companies which are out of favour which is reflected in price. Realistically one bad advert wasn’t going to kill Nike, but it’s fairly possible Tesla could’ve gone very far or even crashed thus my idea to buy and sell straight away. I couldn’t see this working on ‘small’ companies but the two above have very large followings in terms of consumers and devout investors (tesla).

As for ethically investing, I admire your stance, and envy your experience/ knowledge if you’re able to make gains this way, for someone new like myself, making gains at all is a priority, though not for everyone of course.

In addition to this in the intelligent investor graham talks about new trends, I think aviation specifically and how just because something is the future and will be successful doesn’t mean it will create gains for the investor. Looking at longer term like you’ve mentioned ethical investing makes more sense, because of the saying with timing, I suppose my post focuses more on the short-medium term trading rather than investing.

on another note I’ve seen weed stocks becoming more popular lately, would these stocks be considered ethical (I know it would vary from company to company). An ethical rating for companies would only better aid the judgement of investors on the app so this seems a good idea.

[weenie]

As @HarleyJamesOrchard mentions, I too try to remove all emotion from my investing strategy, so I therefore happily invest in ‘sin stocks’, namely oil, mining, tobacco, alcohol and gambling to name a few. Incidentally, people who invest in index trackers will be invested in nearly all the above as they are usually among the largest companies being ‘tracked’.

To consciously choose ‘ethical’ stocks/funds would be to bring my own emotion and feelings into investing but with my cynical hat on, I’d argue that there aren’t that many truly ‘ethical’ companies.

At the end of the day, if you can buy stocks in a company, it means it is beholden to its shareholders and making profits. Of course there are different shades of ‘ethical’ with some better (or worse) than others but none truly 100%. If anyone knows of any, please share as I’d like to wrong here!

Examples of shades of ethical? Banks (for causing the financial crisis and not really learning their lessons and still likely to be the cause of the next storm and expecting to be bailed out), online giants (for helping kill retail in the high streets and not paying the taxes they should be paying), sportswear and other clothing giants (for using cheap sweat shop labour).

I’m sure it wasn’t just me who thought there was something really wrong and unethical with Burberry burning their old stock to maintain their high value brand.

[Freetrade_Team1 (Freetrade_Team)]

@weenie

At the end of the day, if you can buy stocks in a company, it means it is beholden to its shareholders and making profits. Of course there are different shades of ‘ethical’ with some better (or worse) than others but none truly 100%. If anyone knows of any, please share as I’d like to wrong here!

I don’t want to put words in your mouth but I don’t believe that a company having to make a profit means that it has to do so at the expense of everything else - maybe that’s not exactly what you meant?

Looking at Freetrade’s Stock Universe, there’s plenty of companies that I’d consider as at least neutral e.g. ITV, Just Eat, MoneySupermarket & Rightmove. But I haven’t properly researched all those companies so maybe they’re not all as well behaved as I assume.

Although I’m sure lots of the companies have wonderful Corporate Social Responsibility policies, I’ve not spotted any that are as explicitly ethical as I’d like. I guess a company like Innocent (who are still private ) would be a good example of a truly ethical company, although even they’ve been tainted in some people’s opinions by accepting investment from Coca-Cola

I’d be interested to see which companies are included in some of these ethical funds. I have a feeling that the bar is set at ‘not doing anything too bad’, rather than really doing ‘good’ (however that’s defined)..

[weenie]

@Freetrade_Team1

I don’t believe that a company having to make a profit means that it has to do so at the expense of everything else - maybe that’s not exactly what you meant?

No, you’re right, that’s not exactly what I meant - I was just tarring them all with the same brush but the difficulty for these companies will be balancing profits (and dividends and fat cat salaries) with being ethical, and the latter might not always be profitable.

Also, almost 25% of plastic bottles washed up in Hong Kong beaches belong to Coca Cola…

[rarther]

Personally I don’t really believe in ethical investing. Not because I don’t have any ethics or don’t care, but because I think - as a small retail investor - choosing not to invest in a certain company or industry makes no difference as to whether or not they succeed or fail, it just limits your investment performance.

Regulators and governments should be deciding what companies can and can’t do and not retail investors. For example, imagine a company selling guns to civilians in the US. I am totally against that ethically, but that’s a legislative, cultural and political issue that enables it to continue and there’s nothing I can do that will stop it. If they are paying 5% yield due to all those people buying guns then I am unfortunately going to be filling my boots there rather than backing a wind farm paying 2% because I believe in renewable energy.

Even if 10% of investors said “no” to investing in a certain company on ethical grounds, their shares wouldn’t drop at all as any undervaluation would quickly be snapped up by the rest of the market.

I have ethical views on eating animals which I think is different to investing. If I make an ethical decision not to eat animals then that is thousands of animals that won’t be killed to pass through my gut over my lifetime. If 10% of people stopped eating animals you’d likely see a drop in production rather than the rest of the market eating 10% more animals which is the comparison with ethical investing.

I think ethics are something that consumers should use to decide what they buy (would I buy a gun? No, because i think it’s unethical, would I choose renewable energy over non-renewable? Absolutely, even if it were more expensive), however when I look at ethics as an investor rather than a consumer, I don’t feel we can make a difference to anything.

[Freetrade_Team1 (Freetrade_Team)]

For me that’s a bit like saying “why throw my litter in the bin, it’s just one Coca-Cola bottle, what difference will it make?”

It’s the cumulative impact of everyone not throwing their litter in the bin, at the beach or wherever, that does the harm.

[Rat_au_van (Emma)]

There have been companies I’ve avoided for 20 years because of their ethics, I won’t invest in them. Not about making a difference (Shell surprisingly are still in business despite my boycott) but it’s about sticking to my principles