Here is something the ethical investing industry would prefer you not think about too hard.

Over the past fifty years, one of the best-performing sectors in the global stock market has been tobacco. Not clean energy. Not technology. Tobacco. The companies that make a product which kills around eight million people a year have delivered some of the most consistently impressive long-term returns in the history of markets.

If you have already taken the sensible step of putting your money into a low-cost global index tracker, well done. The evidence is overwhelming that this is the right approach for most long-term investors, and you should feel quietly pleased about it.

Here is the thing, though. That global tracker contains tobacco companies. It contains arms manufacturers. It contains fossil fuel producers who have known about climate change for decades and spent considerable money trying to make sure nothing was done about it. None of this is hidden. It is sitting in the fund’s publicly available holdings, entirely unremarked upon. You have just never looked.

This guide is the looking.

Before you close the page and go back to not thinking about it, a promise. This is not going to be one of those guides. No talk of journeys, no virtue signalling, no implication that investors who care about this are morally superior to those who do not. What it is going to be is straight. Ethical investing is genuinely complicated. Some of it works. Some of it is nonsense dressed up in impressive language. The performance evidence is mixed. There are real trade-offs, and pretending otherwise would be an insult to your intelligence.

But there is also this. The gap between ethical investing and conventional investing is considerably smaller than the industry tends to suggest, in both directions. The idea that you will inevitably sacrifice significant returns by choosing an ethical approach is not well supported by the evidence. Equally, the idea that ethical investing will reliably make you richer because virtuous companies outperform is, to put it gently, optimistic. The reality is messier and more interesting than either camp admits, and that is what this guide works through.

My name is Stuart Welch. I spent twenty-five years inside the UK financial services industry. I have watched ethical investing go from a niche concern for a minority of institutional investors to a marketing term that every fund manager in the country has slapped across their brochure. I have watched genuine progress and genuine nonsense, sometimes in the same product. This guide is my attempt to help you tell the difference.

You can also get the full story in my book: Simple Ethical Investing

What ethical investing actually is

The label covers a lot of territory, and not all of it means the same thing.

At the most basic level, ethical investing means choosing not to own certain companies or industries because of what they do. Tobacco. Cluster munitions. Landmines. Gambling. Pornography. The exact list varies by investor, because values are personal, but the mechanism is the same: you are drawing lines.

The more sophisticated version goes beyond exclusions to consider how companies behave. Do they pay their suppliers fairly? Are their carbon emissions managed seriously or just reported impressively? Is the board genuinely independent, or is the chairman’s nephew sitting on the remuneration committee? This is the territory covered by the letters ESG, which stand for Environmental, Social and Governance.

A third version goes further still, actively seeking out companies or funds that are doing positive things: renewable energy infrastructure, community development finance, affordable housing. This is impact investing, and it asks a different question from the other two. Not just “does this company avoid harm?” but “does this investment actively create benefit?”

Most UK investors who engage with this subject at all are somewhere in the first or second category. Understanding which category you are actually in, rather than which you think sounds most admirable, is one of the more useful exercises you can do before making any investment decisions.

(For a plain-English explanation of what the three letters actually mean in practice, the ESG guide covers the territory in more detail.)

The performance question

You cannot discuss ethical investing honestly without addressing the performance question, because it is the one that almost every potential ethical investor asks, and the one that gets the most misleading answers.

The honest summary of the evidence is this: over most reasonable time periods and most markets, ethical funds have not significantly underperformed conventional funds. In some periods, particularly from around 2019 to 2021, many ESG funds significantly outperformed, partly because they tended to underweight energy stocks during a period when those stocks were falling. In other periods, particularly 2022 when energy stocks surged following the Russian invasion of Ukraine, many ethical funds lagged.

What the long-run evidence does not support is the simple claim that ethical investing always costs you returns. It also does not support the equally popular claim that ethical companies reliably outperform because better management and lower risk leads to better long-term results. Both claims are too neat. The real picture is noisier, more context-dependent and less convenient than either side tends to acknowledge.

There are two costs that are real and worth being honest about. The first is fees. Ethical funds typically charge slightly more than their conventional equivalents, because the additional screening and engagement work costs money. The gap has narrowed considerably as the market has grown, but it has not disappeared. A fund charging 0.20% a year rather than 0.12% a year is a genuine difference that compounds over decades.

The second cost is tracking error: the degree to which an ethical tracker diverges from the conventional market index it is based on. When you exclude sectors or companies from a conventional index, you get something that moves differently from the original. Sometimes that divergence works in your favour. Sometimes it does not. Either way, you are accepting that your performance will not precisely replicate the market.

Whether those costs are acceptable depends on how much your values commitment matters to you, which is a question only you can answer. But it is worth having answered it honestly before the first year your ethical fund trails its conventional equivalent by a few percentage points.

(The dedicated post on whether ethical funds underperform goes into the evidence in considerably more detail if you want to see the numbers.)

What ESG ratings actually measure (and what they miss)

If you spend any time looking at ethical funds, you will encounter ESG ratings. They will be presented as reassuring evidence that something has been rigorously assessed and found to be sound.

Your first instinct should be to ask a question. Assessed by whom? Against which criteria? Weighted how?

The uncomfortable truth about ESG ratings is that they are considerably less standardised and reliable than they appear. A 2019 study at MIT found that the correlation between ESG scores produced by six major rating agencies for the same companies was around 0.54. In plain terms, the agencies agreed with each other slightly more than half the time. For comparison, Moody’s and S&P, two major credit rating agencies, agree on credit ratings at a correlation above 0.9.

That divergence exists because different agencies measure different things. Some focus on what a company does to the environment. Others focus on what environmental risks the company faces. These are related questions but they can produce opposite conclusions about the same company. An oil company is obviously a significant environmental risk by the first measure, but by the second it might score reasonably well if it has good systems for managing its own climate regulation exposure.

There is also the scope problem. Most ESG ratings assess how a company manages its own operations. They are much less good at capturing what the company’s products actually do in the world. A tobacco company might score reasonably on its own environmental management and governance. Its products kill eight million people a year, but that fact does not show up in its ESG score in proportion to its importance. A social media company might have outstanding environmental credentials while its platforms cause measurable harm to the mental health of millions of teenagers.

This is not a reason to dismiss ESG analysis. A company with consistently high governance scores across multiple agencies probably is better run than one with consistently poor scores. The signal, imperfect as it is, contains real information. But understanding what it is measuring, and what it is not, matters considerably if you are going to use it well.

(The greenwashing post covers the practical tools for spotting when ethical claims are genuine and when they are not.)

The main ways to invest ethically in the UK

For most UK investors, ethical investing means choosing between a small number of approaches, each of which involves a different set of trade-offs.

Ethical index trackers are the starting point for most people. These are passively managed funds that track a version of a conventional market index with certain companies or sectors screened out. The most common ethical global trackers available to UK investors track indices like the MSCI World ESG Leaders or the FTSE4Good series, which apply exclusions for tobacco, controversial weapons and other categories, and tilt towards companies with better ESG scores.

The appeal is straightforward: you get the simplicity and low cost of tracker investing, with a meaningful ethical screen applied. The limitation is that you are accepting the ethical judgement of the index provider, which may or may not precisely match your own values. A fund that tracks the MSCI World ESG Leaders index will still hold oil companies, defence companies and various others that some investors would prefer to exclude entirely. It holds them because they score well relative to their sector peers, rather than because they are unambiguously ethical businesses.

ESG-screened funds take the approach further by applying more specific and often more demanding criteria. They may exclude entire sectors rather than just the worst performers within them. The trade-off is typically higher fees, greater tracking error, and a portfolio that is more concentrated than a broad global tracker.

Thematic funds are a different proposition entirely. Rather than filtering a conventional index, they build portfolios around a specific positive theme: clean energy, sustainable water, social housing. These funds are making an explicit bet on a particular sector, which means they are significantly more concentrated and more volatile than a broad ethical tracker. Clean energy funds, for example, delivered spectacular returns between 2019 and 2021 and then fell sharply in 2022 when interest rates rose and political support for renewables became more contested.

For most investors who are committed to the simple investing philosophy, thematic funds work best as a small addition to a core ethical tracker, if they are used at all, rather than as the main holding.

Beyond funds, there are other ways to extend an ethical approach: ethical savings accounts from banks like Triodos and the Co-operative Bank, which apply explicit lending criteria; green bonds, which direct capital to specific environmental projects; and crowdfunded renewable energy platforms, which allow direct investment in solar or wind infrastructure. These are useful complements for investors who want to think about their entire financial life through an ethical lens, but they are not substitutes for getting the core investment portfolio right.

(The ethical investing in a UK ISA post covers the practical fund options and how to access them through a Stocks and Shares ISA.)

The question of your own values

Here is something that sounds obvious but turns out to be genuinely useful to work through properly: most people do not know exactly what they stand for as investors until they start asking the specific questions.

Of course you care about the environment. Of course you do not like arms dealers. It all seems straightforward, until it stops being straightforward about five minutes in.

Do you exclude all fossil fuel companies, or just the ones not serious about transitioning to cleaner energy? Does a mining company supplying lithium for electric vehicle batteries count as part of the problem or part of the solution? What about a defence company making equipment used by NATO allies to protect democratic nations? Or a bank that finances renewable energy projects but also lends to oil companies?

The questions multiply, and the confident position you held five minutes ago starts to look rather more complicated.

A useful distinction to draw early is between things you want to exclude entirely and things you simply prefer to avoid where possible. A hard exclusion is a clean line: you will not own tobacco companies, regardless of how they score on other metrics. A preference is softer: you would rather avoid companies with poor labour practices, but you accept that almost every large global company has supply chain exposure that falls short of perfect, and you are looking for meaningfully better rather than impossible purity.

Most ethical investors work with a combination of both: a small number of hard exclusions covering the things they feel most strongly about, and a broader tilt towards better companies without demanding perfection. Working out which category your concerns fall into is one of the most useful things you can do before choosing a fund.

The other honest question to ask yourself is how much complexity you are actually prepared to accept. Ethical investing exists on a spectrum. At one end is the investor who swaps a conventional global tracker for a broadly equivalent ESG-screened tracker, accepts its imperfections, and otherwise treats their portfolio exactly as before. At the other end is the investor who researches multiple ESG indices, combines several funds to express specific values, exercises shareholder voting rights through their platform, and reviews the whole picture annually.

Both of these are genuine ethical choices. The first is not lesser than the second. An approach you actually maintain for decades is worth considerably more than a sophisticated one you find exhausting and eventually abandon.

The pension conversation most people avoid

This is the part most ethical investing guides skip over, perhaps because it is the most uncomfortable.

Investors who make careful, considered choices about their ISA, comparing funds and reading factsheets, often leave their pension entirely alone in whatever default fund their employer chose when they joined the company. The pension typically holds ten or twenty times more money than the ISA. It is, for most people, their largest investment by a very significant margin. And for most people, it is invested in a conventional global tracker with no ethical screen at all.

The good news is that this is changing. Many large workplace pension providers now offer ethical investment options alongside their conventional default funds. If yours does, switching is usually a straightforward process through the scheme’s online portal.

If yours does not, the options include asking your employer to add one, which is more achievable than it sounds and is something the Pensions Regulator actively encourages schemes to consider, or making additional pension savings in a SIPP where you have full control over investment choices.

The SIPP is the most flexible option for anyone who wants their pension portfolio to reflect the same values as their ISA. The trade-off is that you are responsible for your own investment decisions rather than having a default fund handle the allocation for you. For investors who have read this far and are comfortable making those decisions, that trade-off is likely to be acceptable.

(The how UK pensions work guide explains the different pension types, how tax relief works, and how to find out what your pension is actually invested in.)

How to evaluate an ethical fund properly

When a fund claims to be ethical, you need a way to assess whether that claim is genuine or marketing. Here is a practical framework.

First, look at what the fund actually holds. Every UK fund is required to publish its full list of holdings. The top ten holdings tell you a great deal. If a fund describing itself as a sustainable global equity fund has major oil companies in its top ten, that is worth understanding. It does not necessarily mean the fund is not doing what it says: best-in-class approaches deliberately hold the most responsible operators within contested sectors. But you should know what you own.

Second, look at which index the fund tracks. The ethical credentials of an index tracker depend almost entirely on the construction methodology of its underlying index, and index methodologies vary considerably. The MSCI World ESG Leaders index, the FTSE4Good series and the S&P 500 ESG index each produce different portfolios with different sector exposures. Understanding which index your fund tracks, and what criteria that index applies, tells you far more about the fund’s real ethical content than its name or marketing materials.

Third, look at fees. A well-constructed ethical global tracker from a reputable provider should be available for somewhere in the range of 0.15% to 0.25% per year. Anything significantly above that needs a clear justification in terms of what the additional cost is buying.

Fourth, look for independent scrutiny. The UK’s FCA introduced Sustainability Disclosure Requirements in 2024, creating specific labels for sustainable investment products and restricting the use of sustainability language without meeting defined criteria. Funds that carry an SDR label have had their ethical claims independently assessed against a defined standard, which is a meaningful data point even if it does not guarantee perfection.

(For the specific steps to spotting greenwashing in fund marketing, the greenwashing post is the most directly practical.)

What this all means in practice

The practical conclusion for most UK investors reading this guide is simpler than the complexity of the subject might suggest.

If your ethical concerns take the form of wanting to avoid the most commonly objectionable sectors, a broadly ESG-screened global tracker from a reputable provider does that job at a modest cost, with minimal additional complexity. This is a genuine ethical choice that requires roughly one afternoon of setup and an annual review. It is not a compromise. It is a sensible approach that most people can maintain for decades without finding it burdensome.

If you have more specific or strongly held ethical commitments, a more careful fund selection process, looking at the actual methodology of the underlying index and what the fund genuinely holds, will get you closer to a portfolio that reflects those commitments. This takes more time but is not beyond any investor who has followed this guide.

If you have not yet thought about your pension, that is the most important next step. The money is there. The options are improving. The question of what it is invested in is entirely answerable. Answering it is well overdue.

The goal of ethical investing is not moral purity through a portfolio. It is making considered, informed choices that reflect your values as well as the available options allow, while being honest about the compromises involved. The investor who achieves that is doing something more meaningful than the investor who simply buys the fund with the most impressive-sounding label. It is also, not coincidentally, considerably more meaningful than never thinking about it at all.

Further reading on ethical investing

• What ethical investing actually means
• Do ethical funds underperform? The evidence, honestly examined
• Greenwashing in investment funds: how to spot it and avoid it
• Ethical investing in a UK ISA: the realistic options
• How UK pensions work