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The growing popularity of ESG-themed strategies by fund managers is no doubt a positive for the globe, but the “proliferation of product” is muddying the waters of sustainability and green-themed investments.

This was the core message delivered by Australian Ethical’s head of domestic equities, Mike Murray, when presenting at The Inside Network’s Equities and Growth Assets Symposium last week.

Australian Ethical’s approach to ethical investment, he explained, is abundantly clear and driven solely by the firm’s Ethical Charter, which hasn’t changed since 1986. Internally, the investment universe for each strategy is set by this charter and the ethics team which analyses it, with portfolio managers left to then construct the highest-quality portfolio.

Presenting on the topic “Beyond the Thematic,” Murray highlighted the growing challenge facing advisers and investors in understanding what it is you are getting and whether it is having an impact. Commenting on the expanding range of passive products with an ESG bent, he asked the question “Is this a financially disciplined product?”

Any ethical investment approach is highly personal, hence one of the most important parts for any manager is communication and clarity on what it is actually going to deliver. Almost every global manager now has an ESG message to share, but the majority of this falls into the “bolting-on” of an ESG integration approach to an already robust investment strategy. The result is that many of these “look like an index,” offering little difference from the alternatives.

Murray offered an analysis of a number of “sustainable” investment products, comparing the individual holdings within each to those which are considered “ethically investable” within his own domestic equities strategy. Of those selected, about 40 per cent of the underlying investments would be considered uninvestable by Australian Ethical, while the underlying sector allocations looked significantly different from a sustainable approach, with over 50 per cent in financials and real estate.

What this suggests is that Murray favours an active ethical approach over index-tracking strategies, particularly in the current market environment which he thinks rewards bottom-up stock picking. Many analysts have put this down to the fact that ethical and sustainable strategies tend to favour healthcare, technology and consumer-facing companies, however, Murray warns that this is a “product of the strategy,” not an objective. Quality companies seeking to do better simply tend to be outside the traditional old-world economic sectors.

With extensive experience in analysing healthcare companies over decades in the industry, he highlights the importance of “specialist knowledge” of the market and those companies that fall within the “sustainable universe.” While really focusing on specialisation can constrain one’s universe, it allows the portfolio manager to “add value more effectively.”

Central to this willingness to be different is a focus on having “patient capital” and an index-unaware investment approach that can deal with volatility. This is where the engagement with members and investors is key, and something that has differentiated the firm in recent years.

The “sweet spot” for ethical investing and the biggest source of alpha is finding those companies that “intersect the sustainable universe, require specialist knowledge to understand the opportunity set and most importantly, allow the leveraging of market inefficiencies,” he says.

While the outlook is inherently positive, it isn’t a straight line, which Murray highlighted by showing the incredible growth rate of healthcare stocks in the last decade, but underperformance in the 2010s. In an environment where all valuations are in question, a willingness to be different is key, but also a cautious approach in this sector.