What is Socially Responsible Investing (SRI) and why does it matter?
Socially responsible investing, also known as ‘responsible’ investing, is important to people that want to invest according to their values. In the past, investors either had to pay much higher fees or simply look past companies in their portfolio that may participate in non-socially responsible activities.
In general, socially responsible investors encourage companies to include social good in their practices like environmental stewardship, diversity, human rights and consumer protection.
These investors also prefer to avoid companies that promote negative products and services like alcohol, pornography, gambling, weapons, tobacco, contraception/abortion, and fossil fuel production.
The areas of concern for Socially Responsible Investing can be summarized under the heading of ESG issues: environmental, social justice, and corporate governance.
The history of SRI may date back to 1758 when the Quakers prohibited participating in the slave trade -- buying and selling of humans.
The modern era of socially responsible investing started in the 1960’s in the U.S. when socially concerned investors sought to address the equality for women, civil rights, and labor issues.
You may also remember a photo from 1972 of a 9 year old girl during the Vietnam war. She was naked and running toward the photographer with her back burning from napalm. This incited outrage and protests against Dow Chemical, the manufacturer of the napalm and also many other companies profiting from the Vietnam war.
Using ESG Factors to Define an SRI Approach
A significant and obvious aspect of improving a portfolio’s ESG score is reducing exposure to companies that engage in undesirable activities in your investment portfolio. Companies can be undesirable because their businesses do not align with specific values—e.g. selling tobacco, military weapons, or civilian firearms.
Other companies may be undesirable because they have been involved in recent and ongoing ESG controversies and have yet to make amends in a meaningful way.
ESG controversies include:
Environmental controversies related to energy and climate change, land use, biodiversity, toxic spills and releases, water stress, and/or operational waste. A recent example is the BP (Deepwater Horizon) oil spill from 2010.
Corporate governance controversies involving fraud, bribery, and controversial investments. A recent example is Wells Fargo’s recent controversy where the company may have created as many as 3.5 million fraudulent accounts in the last 15 years.
Labor controversies like discrimination and other violations of International Labor Organization standards. For example, Sterling Jewelers is embroiled in a class action lawsuit alleging gender discrimination and sexual harassment within the company.
Customer controversies involving anti-competitive practices, privacy, and data security, and product safety. Remember the where 500 million user accounts were hacked?
But SRI is about more than just adjusting your portfolio to minimize companies with a poor social impact. Based on the framework of MSCI, a leading provider of ESG data and analytics, a socially responsible investment approach also emphasizes the inclusion of companies that have a high overall ESG score, which represents an aggregation of scores for multiple thematic issues across E, S and G pillars as shown in Table 1 below.