By Belinda Goldsmith and Chris Vellacott
LONDON (Reuters) - The global financial crisis has strengthened the Church of England's drive for more ethical business practices by making companies and shareholders more receptive to change, according to the man who manages its investment fund.
With about 5.5 billion pounds ($8.8 billion) of financial and property assets, the Church has greater clout than many hedge funds. But it has often struggled to make its voice heard.
That is starting to change, according to First Church Estates Commissioner Andreas Whittam Smith.
"It's on both sides," he told Reuters in his wood-paneled office in the shadows of London's Westminster Abbey. "It's not only companies considering whether they are behaving as they should as good citizens," it's also investors preparing to line up alongside the Church to promote better behavior, he said.
"Our typical holdings in companies are half percents, so in itself it doesn't make a lot of difference, but if you can represent with others 15 percent of the capital you can achieve something."
Ethical investment comes at a cost, estimated at about 0.7 percent a year of growth lost from "opportunities foregone".
But the Church's fund still made a return of 9.7 percent last year and stands firmly by its decision to sell out of News Corp
Taking a moral high ground to investment has meant some public relations hiccups along the way.
Scrutiny of the Church's portfolio intensified this year after it was found to indirectly invest in short-term lender Wonga which Church leader, Archbishop of Canterbury Justin Welby, said he wanted "to compete out of business".
But Whittam Smith, a former financial journalist who founded the Independent newspaper in 1985, said ethical investment was not just about avoiding shares in firms involved in pornography, gambling, alcohol and tobacco, or the like.
"With ethical investment there are two aspects. One is to disinvest, the second is to stay and see whether you can change things," he said.
"CHANGE IN MORAL CLIMATE"
About 2.5 billion pounds of the Church's portfolio is invested in shares listed in Britain or overseas, including in drug companies GlaxoSmithKline
Whittam Smith said the Church had discussed its role in the banking sector after a string of scandals over mis-selling and huge compensation payouts, but decided it had more influence as an activist shareholder within to change the moral compass.
"Active ethical investment is not visible from the outside but I see from the inside it changes things," he said.
Whittam Smith added he believed the City of London's financial industry had undergone a "change in moral climate", reining in the bloated bonuses and unscrupulous behavior of recent years. Much still needed to be done, however.
"We still have concerns about the banks as you would imagine. I think there is a change in sentiment in retail banking. I'm not sure there's a change of sentiment in investment banking," he said.
His confidence in bringing change in the banking sector was reflected two weeks ago when it emerged the Church had joined U.S. investors to back a new "ethical" British bank from branches sold by Royal Bank of Scotland
Whittam Smith said the Church's investment in 314 branches of the dormant Williams & Glyn's brand was worth about 60 million pounds and the Church would appoint one board director.
This move indicated the Church was taking an increasingly hands-on role in its investment, for example managing its own property assets worth over 1.1 billion pounds, he said.
Other recent changes in the portfolio include a greater investment in timber, mostly in the United States, and taking a more rigorous path in choosing managers to run fund assets.
Whittam Smith was confident the portfolio was faring well this year and would again beat its annual growth target of five percentage points over the rate of inflation, with much of the income used to pay clergy pensions and support Church work.
"I believe we will exceed that this year," he said.
He said the Church fund was looking to invest in infrastructure projects either in Britain or overseas, increase investment in private equity, and had considered investing in Brazil but had veered off that idea for now.
Asked what kept him awake at night, Whittam Smith expressed deep concerns about the fiscal impasse in the United States.
"If it all went terribly wrong and there was a default it would unpick things very quickly, much more quickly than people think, because so many things depend on it," he said.
(Editing by Mark Potter)