ESG Investing in NZ — Ethical and Sustainable Options

ESG investing — environmental, social, and governance — is the practice of choosing investments based on ethical criteria alongside financial returns. The idea is simple: some investors do not want to profit from companies that damage the environment, exploit workers, or operate with poor governance standards. The execution is more complex.

The first thing to understand is that ESG is not a single standard. Every fund manager defines it differently. One fund excludes fossil fuel companies. Another excludes weapons manufacturers. Another excludes companies with poor labour practices. A fourth excludes all of the above plus tobacco, gambling, and alcohol. The label "ESG fund" tells you almost nothing about what is actually in the portfolio.

The NZ Options

Smartshares offers the Global Equities ESG Fund, which tracks the MSCI World SRI Low Carbon Index. SRI stands for socially responsible investing — a higher standard than basic ESG screening. The index excludes companies involved in controversial weapons, nuclear weapons, civilian firearms, tobacco, thermal coal, oil sands, and companies with very low MSCI ESG ratings. It also tilts toward companies with lower carbon emissions. The management fee is higher than the standard Smartshares Global Equities Fund, reflecting the cost of the additional screening.

Kernel offers several funds with an ethical or sustainable focus. The Clean Energy Fund invests in companies involved in renewable energy, energy efficiency, and clean technology. The Global Gender Equality Fund invests in companies that promote gender diversity in leadership. These are thematic funds that target a specific aspect of ESG rather than broad ethical screening.

Pathfinder operates as a dedicated ethical investment manager in New Zealand. All of its funds apply ESG screening across environmental, social, and governance criteria. The Pathfinder Global Sustainability Fund and Pathfinder Responsible Growth Fund are available through the InvestNow platform. Pathfinder's screening is among the strictest in the NZ market.

Simplicity applies ethical screens across its entire fund range. The screens exclude companies involved in fossil fuels, tobacco, gambling, controversial weapons, and certain other activities. Because Simplicity operates on a non-profit model, the fees are low even with the additional screening costs.

The Performance Question

The concern most investors have about ESG investing is whether the ethical screens reduce returns. The evidence suggests that the impact is neutral at worst. ESG-screened indices have performed broadly in line with their unscreened counterparts over extended periods. Some periods the screened index performs slightly better; some periods slightly worse. The differences are small and inconsistent.

The reason is that ESG screening removes some companies and adds different weights to others, but the overall portfolio remains a diversified collection of large, listed companies. The fossil fuel companies excluded by ESG screens represent a small portion of the total market. Their exclusion has not historically caused ESG funds to underperform meaningfully.

The risk is more about what an ESG fund might include. Some companies that score well on ESG criteria are genuinely sustainable businesses. Others are companies that are good at reporting ESG metrics without making meaningful changes. ESG ratings agencies score companies based on disclosed data, and the quality of that data varies significantly between companies and regions. A fund's ESG credentials are only as good as the data behind the ratings.

Comparing ESG Funds

Reading the fund's statement of investment policy and objectives tells you exactly what the fund excludes and includes. The fund should publish a clear exclusion list — the specific industries or activities it avoids — and the methodology it uses to screen companies. A fund that says it "considers ESG factors" without publishing an explicit exclusion list is not an ESG fund in any meaningful sense.

The fee difference between an ESG fund and a standard index fund is typically small — often a few hundredths of a percent. Most investors who care about ethical investing would accept that modest cost difference to align their portfolio with their values. What they should not accept is a vague ESG label without a clear explanation of what the fund actually does differently.

Engagement Vs Exclusion

Two main strategies exist for ESG investing. Exclusion is the simpler approach — the fund excludes companies involved in certain activities. If the fund excludes fossil fuel companies, no fossil fuel company shares appear in the portfolio regardless of how well they perform. The exclusion is absolute.

Engagement is the alternative. Instead of excluding companies, an engagement-focused fund manager buys shares in companies with poor ESG practices and uses their shareholder voting power to push for change. The manager may vote against the re-election of directors at a company with poor environmental disclosure, or file shareholder resolutions demanding better climate reporting. The engagement approach seeks to improve companies from within rather than divesting and losing any influence.

Both approaches have merit. Exclusion provides a clean conscience — no profits from industries the investor objects to. Engagement provides a mechanism for change — the fund manager can vote shares to influence company behaviour. Some investors prefer one. Some prefer a combination. Both are valid expressions of ethical investing and neither is inherently superior to the other. The choice is a matter of personal philosophy about whether it is better to walk away or stay and fight.

Practical Steps for NZ Investors

The simplest way to invest ethically in New Zealand is to choose a KiwiSaver or managed fund scheme that applies ethical screens. Simplicity applies its screens across all funds by default — you do not need to select a specific ESG fund to avoid fossil fuels and tobacco. Kernel offers sector-specific ethical options alongside its standard funds. Pathfinder applies the strictest screening across its entire fund range.

Checking the fund's quarterly holdings report shows you exactly what the fund owns. A fund that claims to be ethical but holds shares in companies you object to is not aligned with your values regardless of the marketing material. The holdings report is the source of truth. Reading it once after purchasing the fund and then annually confirms the fund is doing what it says.

An ethical investment portfolio does not need to be perfect. A fund that excludes fossil fuels and tobacco but holds shares in technology companies with privacy concerns, retailers with supply chain issues, and banks that lend to controversial industries may still be a significant improvement over a standard index fund. The goal is progress toward alignment with your values, not an unattainable standard of perfect virtue in every holding.