Broad exclusions in defence investing don't work anymore: Experts

The Future Fund confirmed it has not reviewed its exclusions framework in defence investments recently, the Senate Committee heard in late May.

Senator Barbara Pocock was questioning if the Future Fund has conducted analysis of its framework on the back of a New Zealand High Court ruling against the Guardians of New Zealand Superannuation, which found its policies around investing in companies accused of human rights breaches were "unreasonable and unlawful".

However, experts contest broad-based exclusions don't always have their intended impact.

Responsible Investment Association Australasia (RIAA) chair Kate Turner, speaking at the RIAA Conference 2026 in Melbourne, noted exclusions are a blunt tool in an area which is very grey and most defence screening is based on international conventions which struggle to keep pace with the rapid changes in the industry.

Turner gave the example of a former client in the UK who had an ethical fund with a 10% revenue threshold on investments supporting military contracting.

The threshold meant the fund could invest in a company that derives 9.9% of their revenue by providing weapons to countries that are potentially committing war crimes but excluded a company that derives 100% of its revenue from bulletproof vests to the British police force, she says.

Zenith Investment Partners head of responsible investment and real assets Dugald Higgins says investors struggle to agree on where the line is in terms of their investments and this where value-judgement also comes in.

"Is it just the users of the weapons? Is it the sellers? Is it the designers? Is it the component manufacturers? Is it the people who transport them? Is it the people who dig up the raw materials to build them? Is it the people who design the software? And if you go right down the rabbit hole, you could almost exclude everything, which is probably counterproductive," Higgins says.

Turner adds the definition of a defence investment has changed significantly over the years, with investor portfolios now exposed through top tech holdings which provide military AI and dual-use technology.

Scientific Beta head of investment solutions for Australia and New Zealand Warwick Schneller says he is now observing most clients move away from "generic off-the-shelf" exclusions list towards very intentional thought-out criteria.

He notes the MSCI World Defence Index outperformed the broad market by around 50% in 2025, and excluding defence stocks could introduce a tracking error of anywhere between 0.1% and 0.5% into a fund's risk budget, a range that has become increasingly meaningful for investors.

Schneller adds funds are defining weapon classes carefully so they don't accidentally exclude a Magnificent-7 stock when that is not the intention.

Another risk Schneller mentions is many products in the space are now dual-purpose. He gives the example of Caterpillar, which was excluded from the Norway's sovereign wealth fund portfolio over how its bulldozers were being used in Gaza.

"On one hand it's a bulldozer, but if you think about it some people will say that if a bulldozer is then fitted with armour plates and is operating alongside military forces, should that then be a company that's excluded?" Schneller questions.

"But if someone does not go to an end use and defines it from a weapon class approach, then they'll say no, this is a bulldozer. How someone uses it and where it's deployed or produced in the supply chain is different."

Turner says defence companies are not used to being asked about the end-use of their products and it's something they are often not willing to talk about.

She notes while currently exclusions are the first and foremost tool investors use when it comes to defence, the market is evolving for investors to think more towards stewardship, engaging with asset managers and having an escalation process.

Schneller agrees stewardship will play an important role particularly for the dual-use technologies.

"I think that's particularly on the dual-use technologies, where large asset owners have a seat at the table and can work with companies to say we want a better sense of how this technology is going to be used," he says.

The Future Fund last reviewed its responsible investment framework in mid-2025, stating it will review its policies at least every three years. The sovereign wealth fund has continued to invest in defence giants like Palantir, Lockheed Martin, Northrop Grumman and Elbit Systems, with investments soaring in 2025.

Future Fund told the Senate it remains "comfortable and confident" with the risk of having these investments in its portfolio.