As geopolitical tensions and government rearmament programs drive inflows into defence exposures, Zenith has warned it is becoming more difficult to exclude them from portfolios.
Global conflict is driving investor interest in defence sectors, with Zenith Investment Partners’ head of responsible investment Dugald Higgins warning investors may find themselves increasingly exposed, as even ESG labels fail to screen out such holdings.
While responsible investment is a priority for many investors and armaments have often been excluded from ESG and ‘responsible’ funds, he said rising defence investment more broadly means outcomes depend on how strategies and frameworks are designed.
Higgins pointed to an increasingly visible contradiction within the market. While global issuance of defence ETFs have more than doubled over the past year and assets under management have increased five times to $109 billion, over 90 per cent of those assets are issued by managers that are signatories to the UN-backed Principles for Responsible Investment.
“We are seeing significant growth in defence-related investment vehicles, including from managers that align themselves with responsible investment frameworks,” Higgins said.
Moreover, he noted that investors may hold indirect exposure to the defence sector through logistics businesses, manufacturers, and technology or communications companies whose products and services are used in military settings or conflict zones. Exposure can also come through sovereign debt, including government bonds issued by countries involved in arms exports.
Higgins’ comments follow the Federal Government’s recent announcement of a $53 billion increase in defence spending over the next decade, alongside the release of the National Defence Strategy and Integrated Investment Program. It forms part of a broader global trend of geopolitical tensions and government rearmament programs driving investors into defence exposures.
As Higgins pointed out, the attractions of defence investing are “undeniable”.
On the ASX, the average one-year return for defence themed ETFs was 32.4 per cent for the year to 31 March. For the ASX 300 Index, the average return over the same period was just 11.6 per cent.
However, for investors seeking to invest responsibly in ESG names, he said it is becoming increasingly difficult to define what defence exposure looks like in modern portfolios, given it can appear in many indirect ways and is not clearly defined.
As even ‘responsible’ managers expand defence-related investment vehicles, he said it is raising questions about whether ESG and defence can coexist.
“We believe ESG is foundational and would argue its importance when assessing defence companies which pose high levels of regulatory, financial, legal and reputational risks. But the morality of these investments is a different question.”
While defence companies can face a wide range of material ESG issues, including human rights violations and corruption, he said investors should still be wary of treating the sector as either automatically acceptable or automatically excluded.
“Labels alone are not enough. Investors need clearer definitions, greater transparency and a more rigorous understanding of the risks involved.”
Zenith’s report also comes after earlier this year, the Albanese government released its proposed sustainable investment product labelling regime following its 2025 industry consultation.
As reported by Investor Daily’s sister publication Money Management, feedback has been largely supportive, but has also highlighted the risk of inadvertent greenhushing or constraints on sustainable product innovation.
