What Is Ethical Investing and How Do You Do It?

If you’d like to invest but are concerned about your investment dollars supporting industries you don’t agree with, ethical investing may be just what you’re looking for.

Ethical investing definition

Ethical investing is an investment strategy in which an investor chooses investments based on an ethical code, such as religious or social values, and financial returns. Ethical investing strives to support industries making a positive impact, such as sustainable energy, and often aligns with ESG investing.

Of course, what is “ethical” depends on the person. What is ethical to you may not be to someone else. That’s why it’s important to look behind the curtain of ethical investments and make sure they align with the impact you’d like to have.

Ready to get started? Jump to how to build an ethical portfolio.

Ethical investing vs. SRI vs. ESG: What’s the difference?

Not much. Ethical investing has lots of variations, including sustainable investing, socially responsible investing (SRI), green investing, impact investing and environmental, social and corporate governance (ESG) investing. Most of these trend toward the same idea: creating positive change by thoughtfully and intentionally investing your money.

But how they achieve that idea varies. Some only include positive-impact investments, while others simply exclude negative-impact investments. Still others use both inclusionary and exclusionary methods. The above names for ethical investment strategies are often used interchangeably, without much consensus on which are exclusive, which are inclusive and which are both.

That’s why it’s important to understand a fund or advisor’s methodology for choosing particular investments: Some may simply exclude investments in tobacco and firearm companies, for example, and call that portfolio “sustainable” or “socially responsible” — without actually including any “sustainable” assets.

Many types of ethical investing, regardless of what they’re called, use environmental, social and corporate governance factors to grade specific investments along an ethical curve. For example, if you’re creating an impact portfolio with a social justice focus, you may look for investments that receive a high ESG score in the social category.

» MORE: See our picks for the year's best financial advisors

Can I make money by investing ethically?

The general idea behind ethical investing is that companies that treat their employees well and are thoughtful about their environmental impact may also be better run and less prone to scandal — which can result in better financial performance. For example, companies that adhere to ESG concerns may avoid fines and lawsuits for issues such as mismanagement of toxic waste disposal, sexual assault and harassment charges and fraudulent transactions, since they may have policies to help avoid those issues in the first place. For these reasons, ethical funds may also carry less market risk than traditional funds.

How to build an ethical investment portfolio

Creating an ethical portfolio doesn’t have to become a second job. Here’s how to start investing ethically:

1. Decide how involved you want to be

You can build an ethical portfolio yourself by picking and choosing specific investments and monitoring them over time, or you can get some help from a financial advisor.

• I want to build my own portfolio. If you want to be sure the investments in your portfolio align with what’s ethical to you, it may be a good idea to build your own portfolio. Some brokerages are better equipped to help you find ethical investments than others. For example, some have screener tools to help you find the right funds for your portfolio. (If you don't already have a brokerage account, here's how to open one.)

• This is a lot of work. I want help! Most individuals probably prefer to make socially responsible investments when possible, but “when possible” means different things to different people. It takes a lot of time and effort to figure out how committed a company really is or which ethical practices they prioritize — time that you may not want to dedicate to researching stocks. This is where financial advisors can be helpful. Financial advisors build and manage investment portfolios based on your risk tolerance and goals — and in some cases, your ethical preferences.

» MORE: Learn the difference between financial advisors and robo-advisors

2. Know what’s ethical to you

Take some time to outline what an ethical investment looks like to you. Does an oil company still count as “ethical” to you if it has robust environmental initiatives, or would you rule investments in oil out entirely? Knowing what industries you want to support and which you want to avoid will make it easier to include or exclude certain investments.

3. Find ethical investments

Once you have an account and you know your priorities, you can start building a portfolio that aligns with your moral compass. Two types of investments you may consider for a sustainable portfolio are stocks and funds.

Individual stocks

Some companies offer sustainability reports that describe green energy or cultural initiatives they’ve taken on, as well as what kind of environmental impact the company has. It’s also a good idea to see how a company’s employees rate the work culture through an independent site such as Glassdoor. Learn more about how to research stocks.

Funds

Funds are a quick and easy way to diversify your portfolio, and there is a growing field of ethical funds to choose from.

• Mutual funds invest according to criteria laid out by the fund manager, which may include ESG factors. If your broker offers a screening tool, you can explore different funds and stocks to find the ones that will best fill out your ethical portfolio.

• Similarly, ESG exchange-traded funds (ETFs) invest in companies that aim to have a sustainable and societal impact in the world, such as those with a small carbon footprint or diverse leadership boards. ETFs are like mutual funds in many ways, but a key difference is that ETFs can be traded throughout the day, similar to stocks.

To learn about the details of a particular fund, look through its prospectus. You’ll want to look for two things in particular: the fund’s holdings (a list of all the companies a fund invests in) and its expense ratio. Expense ratios are annual fees taken as a percentage of an investment. For example, if you invest $5,000 in a mutual fund with a 1% annual expense ratio, you’ll pay $50 a year. While some funds with “ESG” or “sustainable” in their name have higher expense ratios than traditional funds, there are also ethical funds that are cheaper than their traditional counterparts.