2008 Lane Reports

A Closer Look at Socially Responsible Investing?

Saturday, November 1, 2008
by Daniel T. Allen



Over the last year the Dow has declined about 40% with 25% of its drop occurring in October. Daily headlines have outlined concerns about how various companies were doing business and those concerns have created uncertainty in the marketplace. Investors are increasingly asking if they can trust the information they are receiving about companies and as a result they are beginning to demand accountability. Suddenly, not only are environmental and social issues important but now corporate governance has also been raised to the forefront of investor concerns. No wonder Socially Responsible Investing (SRI) is being looked to by investors today.

Socially Responsible Investing (SRI) is hot. Over the last ten years, the SRI segment of the total U.S. investment pool "rose more than 324% from $639 billion in 1995 to $2.71 trillion in 2007" to become 10.8% of the total investment assets under professional management by major financial institutions. (Social Investment Forum (SIF), 2007 Report on Socially Responsible Investing Trends in the United States) Investment Company Institute's research indicates that the entire investment universe of all Exchange Traded Funds (ETFs) just broke $600 Billion in May 2008. SIF also reports that, from 2005-2007, SRI investments increased "more than 18% while the broader universe of professionally managed assets increased less than 3%."

So what is going on? Al Gore's film, "An Inconvenient Truth," climate change, toxic chemicals in toys from China, and the genocide in Darfur have all combined to create a shift in public attitudes. As a result, today SRI is rapidly evolving. Andrew Bloom, 2nd Senior Vice President Wealth Management at Smith Barney says, "When you get into SRI, and you will, do your homework so you understand what you are buying." Well, investors are buying and in record numbers as they demand that their values be applied to their investments. The smart companies are paying attention.

History of Modern SRI

The roots of SRI can be traced back to religious organizations such as the Quakers. In the early to mid-1700s, Quaker church members were prohibited from participating or investing in the slave trade or providing any support for the ability to wage war. John Wesley (1703-1791), founder of the Methodist Church, preached in his famous Sermon 50, "The Use of Money," that we must be moral in all dealings with money so that we might "gain all we can without hurting our neighbour."

Throughout the 1800s, religious investors were encouraged to avoid what was considered to be "sinful" investments in guns, liquor, and tobacco. This continued to be the main thrust until the ‘60s when, during the Civil Rights Movement, Dr. Martin Luther King, Jr. and others began to use economic power as a means to create pressure for change.

The idea expanded into the anti-war movement of the day, and investors who opposed the Vietnam War began to avoid investing in companies that were supporting the war effort. In 1971, PAX World launched the PAX World Fund (now called the PAX World Balanced Fund) which is widely regarded as the first publicly available SRI mutual fund. The fund primarily screened out companies profiting from war efforts.

In 1972, Nick Ut won the Pulitzer Prize for his photograph of a naked and badly burned young Vietnamese girl, running from her village after a napalm attack. Outrage over the incident led to widespread protests and investor revolts against Dow Chemical, the makers of napalm. In the 70s, investor avoidance of South Africa is believed to have reduced international investments in South Africa by as much as 75% and added to the political pressure for that system to change.

During the ‘70s and ‘80s, funds were created to advance such causes as women's rights, labor equity and the environment. Growing acceptance of what we now call SRI even led both Presidents Carter and Reagan to advocate mission-based investing in pension funds.

During the last fifteen years or so, the options available have exploded. Today, according to the SIF Forum, there are about 250 mutual funds, a number of Separately Managed Account managers, a growing number of ETFs, and several large equity funds pursuing a principled investing approach. Modern SRI encompasses essentially three general approaches, with some overlap among them.

 Negative Screening

Most mutual funds use this approach. Negative Screening has been the way that SRI has been done traditionally. The concept is simple. Avoid investing in the types of companies that engage in whatever practice that you oppose. This is by far the easiest and most common approach taken by SRI firms. This approach is also the most scalable. By screening out "sin stocks," a socially responsible mutual fund can afford socially conscious investors with modest assets to invest an opportunity to give voice to their values.

 Theme Investing

Theme Investing is an approach that has grown in popularity and is increasingly used by new mutual funds, some ETFs and some large equity funds, such as the Generation Global Sustainability Fund, Chaired by Former Vice President Al Gore. Investments utilizing this approach typically focus on one issue and invest accordingly. Popular themes right now include emerging energy technologies (such as solar and wind power) and "sustainability." As a part of a broader, more diversified portfolio, this can provide the opportunity to focus support and create emphasis on segments of the marketplace that reflect an investor's values.

 Investor Advocacy

Reflecting the idea that no one is perfect and companies that are making improvements should be encouraged to continue, the idea is to select companies that are advancing or "advocating" the issues important to the investor. Sometimes referred to as a "best in class" approach, the advantage is that all sectors and industries can be represented unlike Negative Screening. Moreover, investors can more effectively influence change since they are stakeholders. Since it is typically a customized approach Investor Advocacy is almost always set up as a Separately Managed Account.

Going Forward

Today, everyone is talking about SRI and environmental topics are the predominant issue for most investors. New funds and investment portfolios are being created regularly that have a wide variety of positions on environmental issues. SRI has made issues such as brownfields, much more important to company leadership because of the potential valuation impact that neglect of these issues can create. Today, commercially available research regularly tracks brownfields and the remediation of these sites, making this information widely available to funds, portfolio managers and their investors.

George P. Nassos, Director - Environmental Management and Sustainability Program & Center for Sustainable Enterprise at IIT Stuart Graduate School of Business summarizes it like this, ""For long-term investors, it is imperative to look for companies that are truly sustainable -- environmentally, socially and economically... these companies will provide the best long term return for their shareholders and, at the same time, will be able to sustain their competitive position."

SRI is growing, its market impact is increasing, and the influence of Socially Responsible Investing on all of us will likely continue to increase for a very long time.

Adapted from an article originally published in
Brownfield News and Sustainable Development
Volume 12, Issue 5 October 2008 Issue

Daniel T. Allen (dallen@advocacyinvesting.com) is Senior Vice President and Director of Business Development for Marc J. Lane Investment Management, Inc.



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