Socially responsible investing

Socially responsible investing, also known as sustainable investing or ethical investing, describes an investment strategy which seeks to maximize both financial return and social good.

In general, socially responsible investors favor corporate best practices that promote environmental stewardship, consumer protection, human rights, and diversity. Some (but not all) avoid businesses involved in alcohol, tobacco, gambling, weapons, the military, and/or abortion.

History

The origins of socially responsible investing (SRI) may date back to the Religious Society of Friends (Quakers). In 1758, the Quaker Philadelphia Yearly Meeting prohibited members from participating in the slave trade–buying or selling humans.

Religious institutions have been at the forefront of social investing ever since. One of the most articulate early adopters of SRI was John Wesley (1703-1791), one of the founders of Methodism. Wesley's sermon "The Use of Money" outlined his basic tenets of social investing – i.e. not to harm your neighbor through your business practices and to avoid industries like tanning and chemical production, which can harm the health of workers. Some of the most well known applications of socially responsible investing were religiously motivated. Investors would avoid “sinful” companies, such as those associated with products such as guns, liquor, and tobacco.

The modern socially responsible investing movement evolved with the political climate of the 1960s. Economic development projects started or managed by Dr. Martin Luther King, like the Montgomery Bus Boycott and the Operation Breadbasket Project in Chicago, established the model for future socially responsible investing efforts. King combined ongoing dialog with boycotts and direct action targeting specific corporations. Concerns about the Vietnam War were incorporated by some social investors.. Many people living during the era remember a picture in June 1972 of a naked nine year-old girl, Phan Thị Kim Phúc, running towards a photographer screaming, her back burning from the napalm dropped on her village. That photograph channeled outrage against Dow Chemical, the manufacturer of napalm, and prompted protests across the country against Dow Chemical and other companies profiting from the Vietnam War.

During this time, social investors increasingly sought to address equality for women, civil rights, and labor-management issues. In the late 1970s, SRI activism gave increasing attention to nuclear power and automobile emissions control.

During the 1950s and 1960s, trade unions deployed multiemployer pension fund monies for targeted investments. The United Mine Workers fund invested in medical facilities, for example, and the International Ladies' Garment Workers' Union (ILGWU) and International Brotherhood of Electrical Workers (IBEW) financed union-built housing projects. Labor unions also sought to leverage pension stocks for shareholder activism on proxy fights and shareholder resolutions. In 1978, SRI efforts by pension funds was spurred by The North will Rise Again: Pensions, Politics, and Power in the 1980s and the subsequent organizing efforts of authors Jeremy Rifkin and Randy Barber. By 1980, presidential candidates Jimmy Carter, Ronald Reagan and Jerry Brown advocated some type of social orientation for pension investments.

From the 1970s to the early 1990s, large institutions avoided investment in South Africa under apartheid. International opposition to apartheid strengthened after the 1960 Sharpeville massacre. In 1976 the United Nations imposed a mandatory arms embargo against South Africa. In 1971, Reverend Leon Sullivan (at the time a board member for General Motors) drafted a code of conduct for practicing business in South Africa which became known as the Sullivan Principles. Reports documenting the application of the Sullivan Principles discovered that U.S. companies were not attempting to lessen discrimination within South Africa. Because of these reports and mounting political pressure; cities, states, colleges, faith-based groups and pension funds throughout the United States began divesting from companies operating in South Africa. The subsequent negative flow of investment dollars eventually forced a group of businesses, representing 75% of South African employers, to draft a charter calling for an end to apartheid. While the SRI efforts alone didn't bring an end to apartheid, it did focus persuasive international pressure on the South African business community.

Since the late 1990s, socially responsible investing has become increasingly defined as a means to promote environmentally sustainable development. Many investors consider effects of climate change a significant business and investment risk. The Ceres organization formed in 1989 as a network of investors, environmental organizations, and other public interest groups interested in working with companies to address environmental concerns.

Representatives from the SRI industry have gathered at the annual SRI in the Rockies Conference since 1989 to exchange ideas and gain momentum for new initiatives. This conference is produced by First Affirmative Financial Network, an investment advisory firm that specializes in sustainable and responsible investing. First Affirmative and the Social Investment Forum serve as co-hosts for the conference, which has attracted over 550 persons annually since 2006.

Drawing on the industry’s experience using divestment as a tool against apartheid, the Sudan Divestment Task Force was established in 2006 in response to the genocide occurring in the Dafur region of the Sudan. Support from the US government followed with the Sudan Accountability and Divestment Act of 2007.

More recently, some social investors have sought to address the rights of indigenous peoples around the world who are affected by the business practices of various companies. The 2007 SRI in the Rockies Conference held a special pre-conference specifically to address the concerns of indigenous peoples. Healthy working conditions, fair wages, product safety, and equal opportunity employment also remain headline concerns for many social investors.

Modern applications

Socially responsible investing (SRI) is a booming market in both the US and Europe. Assets in socially screened portfolios climbed to $2.71 trillion in 2007, an increase over the $2.16 trillion counted in 2003 according to the Social Investment Forum’s 2007 Report on Socially Responsible Investing Trends in the United States From 2005-2007 alone, SRI assets increased more than 18 percent while the broader universe of professionally managed assets increased less than 3 percent. As of 2007 about one out of every nine dollars under professional management in the United States is involved in socially responsible investing—11 percent of the $25.1 trillion in total assets under management tracked in Nelson Information’s Directory of Investment Managers.

Research estimates by financial consultancy Celent predict that the SRI market in the US will reach $3 trillion by 2011. The European SRI market grew from €1 trillion in 2005 to €1.6 trillion in 2007.

Ethical investment in the UK

In 1985 Friends Provident launched the first ethically screened investment fund with investment criteria which excluded tobacco, arms, alcohol and oppressive regimes. Since 1985 over 90 investment funds have launched offering a wide range of investment criteria; both negatively screened and positive i.e. investing into environmental companies.

During the same year Barchester Green Investment the UKs oldest ethical specialist IFA (Indepedent Financial Adviser) firm also launched, [www.barchestergreen.co.uk]

According to the Ethical Investment Research Service (EIRIS) GBP 9.8 billion is invested in ethical and environmental investment funds in the UK.

Government-controlled funds

Government-controlled funds such as pension funds are often very large players in the investment field, and are being pressured by the citizenry and by activist groups to adopt investment policies which encourage ethical corporate behaviour, respect the rights of workers, take environmental concerns into account, and generally avoid violations of human rights. One outstanding endorsement of such policies is the Norwegian Government Pension Fund, which is mandated to avoid "investments which constitute an unacceptable risk that the Fund may contribute to unethical acts or omissions, such as violations of fundamental humanitarian principles, serious violations of human rights, gross corruption or severe environmental damages."

Many pension funds are currently under pressure to disinvest from the arms company BAE Systems, partially due to a campaign run by the Campaign Against Arms Trade (CAAT). Liverpool council has passed a successful resolution to disinvest from the company, however a similar attempt by the Scottish Green Party in Edinburgh was blocked by the Liberal Democrats

Mutual funds

Socially responsible mutual funds counted by the 2003 Trends Report increased in number to 200 in 2003, up from 181 in 2001, 168 in 1999, and 139 in 1997. Assets in socially screened mutual funds identified by the Trends Report grew by 19 percent, to $162 billion, up from $136 billion in 2001. More than half (51 percent) of this growth is attributed to both newly identified and newly created funds, and 49 percent represents growth in existing assets. In terms of attracting investor assets, socially screened mutual funds grew on a net basis in 2002 while the rest of the mutual fund industry contracted. According to Lipper, socially responsible mutual funds saw net inflows of $1.5 billion during 2002. Over the same time, U.S. diversified equity funds posted outflows of nearly $10.5 billion. According to the Social Investment Forum, socially responsible mutual funds have grown from $12 billion in 1995 to $179 billion, far outpacing the overall growth of mutual funds in the U.S.

Separately managed accounts

According to the 2007 Report on Socially Responsible Investing Trends in the United States, there are more than $1.9 trillion in socially screened separate accounts, a 28 percent increase since 2005. Assets managed for institutional investors comprise $1.88 trillion of this amount, and assets for high-net-worth clients comprise $39.5 billion.

Shareholder advocacy

Between 2001 and 2003, shareholder advocacy activity increased by 15 percent, growing from 269 social and crossover resolutions (which combined aspects of both “social” and traditional corporate governance issues) filed in 2001 to 310 in 2003. Likewise, the average percentage of votes received on these resolutions increased from 8.7 percent in 2001 to 11.4 percent in 2003. Of the total $2.15 trillion in all socially screened portfolios, $441 billion are in portfolios controlled by investors who are also involved in shareholder advocacy on various social issues.

Shareholder resolutions are filed by a wide variety of institutional investors, including public pension funds, faith-based investors, socially responsible mutual funds, and labor unions. In 2004, faith-based organizations filed 129 resolutions, while socially responsible funds filed 56 resolutions]

Regulations governing shareholder resolutions vary from country to country. In the United States they are determined by the Securities and Exchange Commission, which also requires mutual funds to disclose how they voted on behalf of their investors U.S. shareholders have organized various groups to facilitate jointly filing resolutions. These include the Council of Institutional Investors, the Interfaith Center on Corporate Responsibility, and the Social Investment Forum.

Community investing

Community investing, a subset of Socially Responsible Investing, allows for investment directly into community based organizations. Community investing institutions use investor capital to finance or guarantee loans to individuals and organizations that have historically been denied access to capital by traditional financial institutions. These loans are used for housing, small business creation, and education or personal development in the U.S., or are made available to local financial institutions abroad to finance international community development. The community investing institution typically provides training and other types of support and expertise to ensure the success of the loan and its returns for investors.

Community investing climbed 84 percent between 2001 and 2003. Assets held and invested locally by community development financial institutions (CDFIs) based in the United States totaled $14 billion in 2003, up from $7.6 billion in 2001.

Investing strategies

Investing in Capital Markets

Social investors use four basic strategies to maximize financial return and attempt to maximize social good. These strategies may satisfy the ethical principal of non-harming, but with the exception of shareholder activism, they do not necessarily create positive social impact.

Screening excludes certain securities from investment consideration based on social and/or environmental criteria. For example, many socially responsible investors screen out tobacco company investments. In a recent 8 year period, the Domini 400 Social Index – a benchmark that measures the impact of social screening on financial performance – returned 18.54% vs. 16.95% for the S&P 500.

Divesting is the act of removing stocks from a portfolio based on mainly ethical, non-financial objections to certain business activities of a corporation. Recently, CalSTRS (California State Teachers' Retirement System) announced the removal of more than $237 million in tobacco holdings from its investment portfolio after 6 months of financial analysis and deliberations.

Shareholder activism efforts attempt to positively influence corporate behavior. These efforts include initiating conversations with corporate management on issues of concern, and submitting and voting proxy resolutions. These activities are undertaken with the belief that social investors, working cooperatively, can steer management on a course that will improve financial performance over time and enhance the well being of the stockholders, customers, employees, vendors, and communities. Recent movements have also been reported of "investor relations activism", in which investor relations firms assist groups of shareholder activists in an organized push for change within a corporation; this is done typically by leveraging their enhanced knowledge of the corporation, its management (often via direct relationships), and the securities laws as a whole.

Positive investing involves making investments in activities and companies believed to have a high and positive social impact.

Community investment

By investing directly in an institution, rather than purchasing stock, an investor is able to create a greater social impact: Money spent purchasing stock accrues to the stock's previous owner and may not generate social good, while money invested in a community institution is put to work. For example, money invested in a Community Development Financial Institution may used by that institution to alleviate poverty or inequality, spread access to capital to undeserved communities, support economic development or green business, or create other social good.

Non-SRI Funds

At least one mutual fund, the Vice Fund (VICEX), was created specifically to contrast with the trend in socially responsible investing.

VICEX specializes in investing in the defense, alcohol, tobacco, and gambling industries, and (like most socially responsible mutual funds) has outperformed the S&P 500.

“Is it Better to be Naughty or Nice,” by Shank cites a study that compared portfolios comprised of top socially responsible funds and top vice funds. Analysis of alpha regression models found that in the short-term, differences between the two portfolios’ performance was negligible. Only the SRI funds had any significant positive risk-adjusted performance. For the five and ten year period, only the SRI portfolio had positive and significant alpha value, suggesting that the market valued the features of the companies in the SRI portfolio. For the same periods, the vice portfolio showed no significant excess return. These findings indicate that the market valued the features of the SRI portfolio over the longer time horizons, while not valuing the vice funds for any period, and it was the SRI portfolio that had superior risk-adjusted performance.

In addition, the Free Enterprise Action Fund, which performed worse than both the S&P 500 and most socially responsible mutual funds, files shareholder resolutions which oppose the general trend of socially responsible investing, for example by asking GE to "justify lobbying for global warming regulation."

In a comprehensive study, financial economists Lobe and Roithmeier find that publicly traded companies involved in the alcohol, gambling, tobacco, sex, arms and nuclear power industry are able to generate abnormal returns. Employing a self-constructed worldwide index of more than 700 unethical firms, they provide evidence that the risk-return characteristics of sin stocks are superior in comparison to regular stocks as well as socially responsible stocks. . Their findings could be interpreted as evidence of 'Private Vices, Publick Benefits' (Bernard Mandeville, 1714).

Global Context

Socially responsible investing is a global phenomenon. With the international scope of business itself, social investors frequently invest in companies with international operations. As international investment products and opportunities have expanded, so have international SRI products. The ranks of social investors are growing throughout developed and developing countries. Trade organizations keeping track of some of this growth include the Social Investment Forum in the U.S. , the Social Investment Organization in Canada , EuroSIF in the E.U. , the Associate for Sustainable and Responsible Investment in Asia, and the Responsible Investment Association of Australasia. In 2006, the United Nations Environment Programme launched its Principles for Responsible Investment. The Principles provide a framework to help investors incorporate environmental, social, and governance (ESG) factors into the investment process.