Defence: ESG’s Confused Problem Child*
- Neville White
- Feb 3
- 4 min read
Much has been said on the reasons underlying the current malaise in Responsible & Sustainable Investing as a strategy following its dizzying ascent in the years leading up to the COVID pandemic. The overheating of a ‘bubble’, political backlash, the complexities of Fund labelling here and, in the EU, as well as underwhelming investment performance have all played a part. One further reason is clearly confusion: what did all the various terms actually mean – ESG, responsible, sustainable, ethical, impact, and how were each executed?.
This ‘confusion’ comes particularly into focus when one considers the strange phenomena of ethical and ESG (Environmental, Social & Governance) Funds now investing in defence. Traditionally, defence and armaments were among the key sectors excluded from investment portfolios on ethical grounds alongside tobacco, gambling and alcohol. Generally speaking, even those Funds pivoted towards sustainability and ‘green technologies’ would avoid these core ethical sectors from investment selection.
The invasion of Ukraine in 2022 appears to have upended much of this traditional thinking, leaving a void in how to assess Funds that have openly relaxed their ban on defence companies. Whilst Ukraine, and the widely talked up threat to Europe from a resurgent Russia may have been the catalyst, the US Administration’s focus on Europe rearming to look to its own defence, may also be seen as a defining moment. With only a few exceptions (the Baltic States, Poland, Greece) NATO members in the ‘years of peace’ had not troubled to put money into defence, and certainly not above the 2% of GDP set out as the absolute minimum. Germany announcing it will increase its defence spending to €108bn in 2026, and to €152bn by 20291, will make it, by far, the largest military force in Western Europe (dwarfing France and the UK). Unsurprisingly, this race to rearm has become a boom time for defence companies – Rheinmetall AG, the German ammunition manufacturer, has seen its shares rise from €600 to over €1,500 in 2025 alone2.
This presents a dilemma for investors traditionally excluded from the sector once financing war is recalibrated as a ‘public good’. Consequently, there has been a rush by many to relax their approach to defence. French bank BNP Paribas dropped its ban on ‘controversial weapons’ and this has been followed by many others, including Danske Bank, UBS Asset Management and Allianz Global Investors, who have each relaxed their long-held defence exclusions from sustainable labelled funds. Even the Church Commissioners, manager of the £11bn of historic endowments of the Church of England, and long ethical excluders of defence, have announced a ‘nuancing’ of their policy to allow ‘responsible investment’ in defence companies which will no longer be based solely on revenue thresholds; one has to ask how is this to be practically effected?.
Actively managed ‘Article 8’ Funds in Europe now hold around a 2.5% exposure to the defence sector3. It’s fair to say that this inward investment boom is mainly fuelled by huge opportunity and the lure of ‘not missing out’, given the EU’s anticipated €800bn of capital funding for European defence.
There are currently around 110 live armed conflicts globally in play today4. The problem with ESG investors rushing to invest in defence is a fundamental mis-understanding of how the arms trade and the public good are indivisible. Pacifist investors aside, many investors may possibly err on the side of national self-defence being legitimate and desirable. Unfortunately, defence is unique in many ways; its products are not bought in shops or off the shelf, they are made to order and licensed for export solely by governments, received by other governments; companies may win orders, but have no say in the ultimate deployment of their munitions and systems. To that end, investors have to accept that any exposure to defence will also fuel the wider arms trade. A key argument often put by asset managers for defence investing as a public good is the invasion of Ukraine. The UK has provided over £13bn in military support to Ukraine since February 20225, including anti-tank missiles, armoured vehicles, Storm Shadow long-range missiles, and 14 Challenger tanks. Other support includes over 2,500 drones, 60,000 rockets and some 5m rounds of ammunition. Notwithstanding the heinous loss of life inflicted by Russia on Ukraine, the now asymmetric war mounted by precision remote-controlled drones, often aimed at civilian targets, should make investors have cause to pause and reflect.
Ukraine has, at the very least, focused intense scrutiny on whether military contractors can be viewed as legitimate and responsible ESG investments; clearly many have made this case. There is now the quietly growing view within asset management that long-held default exclusions can, and should be, questioned and challenged. Despite imaginative reasoning, it is hard to call this as anything other than opportunism based on a rampant defence sector, huge rearmament financing and the desire ‘not to miss out’, aided by unusually outspoken policy makers critical of ESG investors avoiding the sector.
It may be that clients, in a world thus re-imagined, are content to provide capital to, and take profit from, all manner of weapons, conventional and controversial, in the name of national self-defence. It is also important to stress they are not compelled to do so in any way. It is the call of the ethicist perhaps to emphasise that weapons are, uniquely, only sold by governments without corporate discretion. To that extent national self-defence is indivisible from the wider arms trade that in turn fuels catastrophic displacement, human rights violations and environmental degradation.
Notes
3 Financial Times ‘Defending defence is the hot new strategy in ESG investing 25.09.25
*WHITEFRIARS does not invest in the defence sector
