This post was written by Elite Popular Investor Edward Philip Butler (@eddyb123), a UK native who currently enjoys travelling around the world while working full-time investing on eToro. He uses his sound financial background to research and analyse upcoming trends while venturing through jungles and relaxing on beaches.
Nobel Prize-winning economist Milton Friedman said: “The social responsibility of business is to increase its profits.” Thankfully, Friedman’s Shareholder Theory has been largely superseded by the Stakeholder Theory — the idea that businesses should assess their broader impact on various stakeholders, ranging from employees and local communities to the environment and society.
We hold individuals accountable for damaging behaviour and we should demand the same of businesses. An individual’s personal morals, religious beliefs and culture (among other things) shape how they live their life. So how can it be acceptable to ignore those beliefs when one invests?
What is Socially Responsible Investing?
As defined by the United Nations, socially responsible investing (or SRI) is a “strategy and practice to incorporate environmental, social and governance (ESG) factors in investment decisions and active ownership.”
However, the definition is not quite as black and white as it seems. Applying these principles can get complicated. For example, if you are passionate about protecting the environment, it seems reasonable to suggest that you should not invest in the oil industry. However, do you also extend that thinking to Coca Cola, the world’s largest polluter of plastics? SRI is not a binary metric, rather a broad spectrum encompassing many considerations and is, therefore, relatively subjective. However, that does not detract from its importance.
Why should I care?
You are at a disadvantage with your peers if you are not incorporating SRI analysis into your decisions. Let’s examine why.
95% of millennials now express an interest in sustainable investing and the US SIF Foundation (The Forum for Sustainable and Responsible Investment) reported that more than one out of every four dollars under professional management was invested according to sustainable investing strategies. That represents a 38% increase between 2016 and 2018. Even the likes of Blackrock (with $7 trillion assets under management) have now committed to prioritising sustainable investments. These numbers are astronomical and the trend shows no sign of slowing. SRI is fast becoming an imperative facet of investment decisions.
Unethical behaviour can harm a company’s public image and reputation, ultimately damaging their bottom line and, if left unchecked, the results can be exponentially more detrimental. Examples in recent business history include:
- The Exxon Valdez oil spill
- The Volkswagen emissions scandal
- The Facebook-Cambridge Analytica Data scandal
- BP’s Deepwater Horizon oil spill
- PG&E initiated wildfires
But the question remains: will limiting the number of companies in which you invest because of SRI also limit your potential returns? Let’s have a look at the data to find the answer.
Do SRI indices outperform the S&P 500?
The answer is actually both yes and no (depending on your comparison and the funds), but there is increasing evidence to suggest that companies that incorporate ESG factors into their business are more likely to show long-term growth. According to MoneyWeek, these firms “could earn outsized gains because they focused on things that aided their businesses, like wasting less water and energy, giving their CEOs incentives to focus on the long term and providing high-quality, diverse workplaces that lead to greater employee satisfaction, retention and productivity.”1
Take, for example, the FTSE KLD 400 Index, the first index to measure the performance of a broad spectrum of socially responsible stocks in the United States. When compared to the S&P 500 since 1990, we can see that
the KLD 400 does indeed perform very well:
In fact, there are many SRI funds that have outperformed the S&P 500 over the last five years, such as the Parnassus Endeavor Investor and the Vanguard FTSE Social. One of the best-known UK SRI funds is the Liontrust UK Ethical Fund, which has returned 98.2% over five years.
In short, there is plenty of money to be made without compromising your beliefs.
How can I be a socially responsible investor?
The global investment community has largely settled on using ESG (environmental, social and governance) ratings as a barometer of a company’s ethicality. Most ratings tend to follow the UN’s 17 Sustainable Development Goals.
You alone can determine which factors are important to you, personally. Perhaps start by making a list of the ESG factors that resonate with you the most. From there, you might even begin to create a blacklist, detailing industries and companies you will avoid when investing. Here are some other potential ESG issues to get you thinking:
In order to check a company’s ESG rating, you can use resources such as MSCI’s calculator. Simply enter the name of the company into the search bar on this page to see how they score.
Beyond checking ESG ratings, you can also:
- Use websites like Corpwatch to check for any recent scandals
- Set up Google Alerts for the companies you are researching to keep an eye on breaking stories
- Read the company’s ‘Profile’ section on eToro (under ‘Stats’) to get a balanced view of the issues a company faces
If all of this sounds somewhat daunting, remember that there is no need to immediately and dramatically change your portfolio. You can transition your portfolio incrementally. You will likely need to continue evaluating and tweaking your portfolio according to your own personal SRI thresholds and the changing landscape of business.
eToro’s thematic CopyPortfolios are also a great place to start. For example, the Renewable Energy CopyPortfolio can give you a sense of the major players and overall performance of the renewable energy sector.
It is helpful to think of your investments as endorsements. No snowflake takes responsibility for an avalanche, but each plays its part. Investing in companies that align with your beliefs is a win-win strategy.
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