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ii ACE 30 methodology

ii ACE 30 methodology

Learn how we choose our "ACE 30" investments, who is involved in their selection, our own bespoke asset grouping, the analysis and selection process and finally, the monitoring process.

 

Overview

Unlike most rated lists, which include only actively managed funds, our list includes both active and passive options. It also looks at the whole spectrum of collective investments, including funds, investment trusts and exchange-traded funds (ETFs).

Our rated funds are designed to be suitable for all investors, irrespective of experience. The matrix of 15 x 5 asset groups and investment categories acts as a convenient short list of potential investment options for investors who are interested in a specific asset class and/or investment style. Furthermore, each investment is colour coded to indicate the broad ethical ‘style’ adopted by the manager. The ACE acronym represents interactive investor’s ‘Avoids’, ‘Considers’ and ‘Embraces’ ethical investment styles, which we outline below.

Our objective in compiling the ACE 30 list is threefold:

  1. To provide investors with a menu of high-quality choices among the available universe of ethical investments, across a broad variety of markets and investment types.
  2. To ensure that all ACE 30 investments are managed in a genuinely ethical manner (no ‘greenwashing’).
  3. Only to choose investments with the potential to deliver strong financial performance (‘values and value’).

Our flat-fee pricing means that our investors do not have to have any concerns about any vested interests of ii. Investments are only included if they are, in our opinion, the best option for you, and we do not make exceptions. This ensures that customers can have full faith in our recommendations since there are no commercial or other hidden motives for our lists. The selection process is underpinned by the key principles of Transparency, Choice and Fairness.

Asset Groups and Investment Categories

We have created clearly defined, easily understandable asset class groups and investment categories within which investments can be categorised. This aims to clarify the choices available to private investors.

Our 15 asset groups include some dedicated to UK investments: UK equities, UK equity income, UK smaller companies and sterling bonds. Others include broad global investment options: global equities, global equity income, global bonds and property. For those seeking specific regional exposure to equities we have asset groups dedicated to Emerging Markets, Asia, Europe, Japan and the US. There is also a specialist group, which includes commodities. For those seeking a more diversified investment strategy we have a mixed asset group.

Within each asset group there are five possible investment categories: low cost, core, income, smaller company and adventurous. Each category is briefly explained within the table below and has a different meaning depending on whether the relevant asset group is equity or fixed income.

Our objective is populate the matrix as far as possible. However, at present, the total number of suitable funds stands at around 30. In future as the ethical investment sector matures, we would expect to be able to add new investments in asset groups and investment categories that are currently under-represented, such as US and Japanese equities, property and smaller companies.

Ethical Investment Styles

There is currently no accepted industry standard for classifying the myriad approaches to ethical investing adopted by investment managers. In order to help investors to navigate their way through all the confusing technical jargon towards an ethical approach that is aligned with their own personal values, we categorise all ACE 30 investments into one of three broad ethical investment ‘styles’:

Avoids

Funds that focus on excluding companies, sectors or specific business practices in line with the published fund criteria that may focus on ethical, social and/or environmental issues. Funds in this group vary significantly. Some will exclude only a small number or companies (for example perhaps only a small percent of their possible universe), others have extensive exclusions (50% or more of their possible universe). The most common areas of exclusion are tobacco companies, weapons manufacturers and companies that breach internationally agreed standards - some include multiple additional issues. Passive funds typically fall into this group, generally with limited exclusions. 

Considers

Funds that actively consider ethical and/or environmental, social and governance (ESG) issues as part of their investment strategies. Funds in this group vary significantly but typically consider multiple positive and negative issues when deciding where to invest - with many emphasising positive stock selection. Most avoid controversial business practices and focus on sectors, themes and activities that the managers believe to be both financially sound and ethically, socially and/or environmentally beneficial. Many funds also have responsible ownership (stewardship) strategies and aim to improve companies' environmental and/or social practices.

Embraces

Funds that focus on companies or other investment types (eg infrastructure, property) where delivering positive social and/or environmental outcomes is integral to their existence. These funds often refer to focusing on 'delivering positive impacts' as a major element of their investment strategy and purpose. Alternatively they may simply be entirely invested in a sector (such as renewable energy or social housing) where the potential to help deliver positive benefits is widely recognised. Fund strategies vary and you should be aware that unlike the other two styles additional ethical factors may not always be considered by funds of this kind. 

Although each of the above three approaches has its pros and cons relative to the others, they can still be ranked in order of increasing sophistication and ethical focus, from Avoids at the bottom, through Considers, to Embraces at the top. Where a particular investment manager employs more than one of these three styles, as is sometimes the case, the highest ranked style will be used to categorise that investment. For example, if an equity manager always considers ethical, social and governance (ESG) factors as well as financial attributes when selecting companies for its portfolio, but also will avoid investing in tobacco companies, then we would categorise that manager as having a ‘Considers’ ethical investment style.

Selection Process

Our fund selection process has eight key elements as summarised in the diagram below, following which each element is explained in more detail:

Initial screening

Our starting point is to create the broadest possible universe of ethical investments available to the UK individual investor. The list has been built in collaboration with independent experts, SRI Services, and using our data provider Morningstar. This is not a rated list but is rather an extensive list of ethical options available to our investors. The resulting ‘ethical investments long list' is published on the ii website and updated on a quarterly basis.

Then, using various filtering criteria detailed below, we generate a universe of viable ethical funds for full review and discussion.

Investment Filters

  • Must be tradeable on our platform 
  • Exclude funds that are either sub-scale or experiencing capacity issues
  • Must be sufficiently liquid to allow for daily dealing
  • GBP version chosen where possible and suitable: unhedged share classes are usually preferred (see footnote 1) meaning investors may be exposed to currency risk
  • Minimum track record of one year - preferably three

Cost assessment

We next assess the charging structure of each fund in the universe to ensure that it provides reasonable value for money.

Cost Filters

  • We typically avoid investments where there is an initial charge
  • The Ongoing Charges Figure (OCF) must be reasonable and not significantly higher than its peer group average. 
  • The cheapest share class available is chosen where more than one class exists
     

Performance analysis

Performance is analysed over both short and longer time periods, to identify those actively managed funds and trusts that have delivered consistently superior returns compared with their relevant peer groups. In the case of passive funds, the key performance indicator is tracking error versus the relevant market index – the tighter, the better. This ensures that these investments provide exactly what they say on the tin.

Final constituents are typically selected because they have delivered consistently superior returns (or lower tracking errors in the case of passive funds) compared with their relevant peer group. However, the list may occasionally include a few deliberately 'contrarian' choices where the investment style pursued by the manager has not been in favour, but where we believe past performance and/or the current investing environment suggest a change in fortunes may be due

Risk profiling

Outsized historical returns are sometimes generated by managers who take inappropriately high risks. Consequently, the rating process focuses on identifying managers who have demonstrated that they can deliver the strongest risk-adjusted returns

To do this we quantitatively analyse the risk profile of all candidates using various metrics including Sharpe ratios, information ratios, volatility, tracking errors and gearing where applicable. We eliminate investments with poor risk characteristics relative to their peers.

Qualitative assessment

Having narrowed the field using the quantitative filters above, the remaining investments are now subjected to qualitative due diligence. Factors taken into consideration include manager track record and yields, where relevant, portfolio liquidity and capacity. For investment trusts we also analyse dealing spreads and share price discount or premium to underlying asset value.

Depending on the asset class, we examine specific fund characteristics. For example, for equity funds we look for any significant style drift, while for bond funds we consider the credit profile of holdings and duration of portfolio.

Qualitative analysis allows us to look in more detail at the how the investment is run by the manager. We examine how the fund manager firm operates, its reputation, management team experience, investment style and process.

In addition to our own due diligence we use analysis from our data providers, Financial Express (Trustnet) and Morningstar, where this is available. This allows us to consider external reviews and ratings of the investments as well as our own in-house assessment.

Ethical assessment

As part of the qualitative due diligence process, we also seek to understand the manager’s approach to ethical investing. This allows us to categorise the manager’s investment style correctly but more importantly, to verify that their approach is actually being implemented within the overall investment process and evidenced in the final portfolio. To support our own analysis we may also seek the opinions of external experts in the field, such as SRI Services.

Selection and approval

By this point in the process we will have distilled the original ethical investment universe down to as many high quality funds, investment trusts and ETFs that we believe are most suitable candidates for the 15x5 matrix of asset groups and investment categories that were described above.

The final ‘ACE 30’ list is brought for discussion and approval at a Selection Committee made up of internal experts from interactive investor, Money Observer and Moneywise. The committee will also engage with other investment experts as required.

The process, selection and ongoing management of the ACE 30 is also monitored and ratified by the Investment Committee of ii.

Review and refresh

We maintain regular contact with the management companies of all investments on the ACE 30 recommended list, to ensure that each selection continues to be managed in line with our expectations. A detailed fund questionnaire is completed each year for each ACE 30 investment, covering all the key areas of our due diligence process (both ethical and financial) and based on information sourced directly from the management company concerned.

One area that we monitor closely concerns liquidity risk. All ACE 30 managers are required to provide regular updates on the liquidity profiles of their portfolios. Based on this information, we assign a holding limit for each fund that protects customers if the fund were to be deselected from the ACE 30 for whatever reason. The limit is the maximum percentage of that fund’s AUM that we believe ii customers can safely hold in aggregate, without running the risk that the manager would struggle to process their combined redemption orders over a reasonably short period.

The ACE 30 list is monitored continuously for ‘red flag’ events. Examples of such events include, but are not limited to, fund manager moves, breach of ethical policy, soft closures or a major re-rating from external or internal sources. Breaching a holding limit (as described in the previous paragraph) also constitutes a red flag event. Investments which have experienced a red flag event are automatically placed under formal review.

In addition, the Selection Committee meets monthly to monitor the performance of the ACE 30, based on quartile rankings over multiple periods. Inevitably, investments have periods of out- and underperformance, but this approach aims to identify those that are struggling for fundamental reasons rather than temporary tactical reasons. We also monitor key risk indicators such as volatility and Sharpe Ratio, to help us identify any funds whose risk-adjusted returns have been deteriorating. Passive options have their tracking error and performance reviewed to ensure they are still meeting their index objectives. We also highlight investment trusts trading at a high discount or premium to net asset.

Any ACE 30 investments identified as a possible concern because of this monthly performance review will become subject to enhanced monitoring. If the situation does not improve such that we begin to suspect an underlying problem with the investment, it is then placed under formal review.

Once an ACE 30 investment has been placed under formal review, either for performance reasons or because of a red flag event, our analysts will conduct a thorough investigation, usually including an interview with the investment manager. Based on their report, the Selection Committee will make a recommendation to the Investment Committee either to retain or replace the fund within the ACE 30 listing. Our goal is to reach a decision one way or another within three months of the date when the investment was placed under formal review. This gives us enough time to discuss our concern with the relevant fund manager and/or allow an opportunity for improvement. We will advise customers immediately via the ii website when any investment has been placed under formal review, and again when its fate has been decided.

Where we remove an investment from the ACE 30 list, we will usually seek to replace it with a new option in the same asset group, unless we believe that there is still enough choice for investors within that asset group, or if no suitable alternative exists.

On a quarterly basis, the Selection Committee undertakes a full review to discuss all investments on the list and to consider if any changes should be made. This includes verification that managers’ ethical policies have not changed materially and are still being followed. We also look at potential alternatives and market events that might make changes appropriate. Any recommendation for change is then discussed, agreed and ratified by the Investment Committee.

Any changes that are made will be listed on the site, along with a rationale for the change. A quarterly update of the list is part of our regular editorial features, which also includes a list of all changes made during the quarter.

Once a year we repeat the entire selection process described above, beginning with a refresh of the entire universe of tradeable ethical investment options and then working through the subsequent seven steps that result in a final set of 30 rated ethical investments. This ‘clean sheet’ approach ensures that we consider any new fund offerings and significant market events so that our list remains fresh. The danger with simply maintaining rated lists and not ever adopting a full review of the universe is that you might keep less attractive investments on the list for longer and miss good new opportunities in what is a fast growing sector of the market.

Despite these measures to replace and refresh we do not anticipate a high rate of turnover, with most funds expected to retain their ACE 30 rating over several years. This is consistent with our aim of selecting investments that should be suitable for long term investment purposes.

Are these recommendations?

No, as an execution only provider we do not provide advice involving personal recommendations. Our objective is to develop a trustworthy shortlist of rated investments from which our customers can choose their own investments.

In our experience, individual investors tend to have product type(s) they prefer, be they ETFs, funds or investment trusts, or to be primarily active or passive investors. Where possible, we try to include attractive options in each of these categories.

It is important to note that ethical investing is uniquely personal, hence different investors may take a substantially different ethical view of a particular investment. Investors planning to invest in an ACE 30 fund should do their own research in order to check whether it is ethically appropriate for them. If not, they may wish to consider alternatives from the ‘long list’ of ethical investments published elsewhere on this website, but please note that these have not been subject to any due diligence by ii.

The ACE 30 section of the ii website includes explanatory information on each asset group and investment category. Factsheets for each of the funds and trusts are updated regularly. They contain performance and valuation metrics, as well as key statistics to help investors make their own judgements.

The ACE 30 rated fund list is for information and discussion purposes only and does not form a personal recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in the rated investment list may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

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1  The exception is global bonds, where hedging allows you to take pure credit risk in GBP by eliminating the FX risk, thereby improving the protection characteristics of this particular asset in a broader customer portfolio