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April 07, 2006
Is Contrarian Investing Consistent With or Contrary to Socially Responsible Investing?
    by Bill Baue

SRI practitioners say that the contrarian focus on long-term prospects and overall health of a company suggest yes, while its focus on timing suggests maybe no.


Contrarian investing capitalizes on human frailty--namely, that people tend to overreact. In the marketplace, investors often flee companies experiencing relatively minor problems even though they are sound from a long-term perspective. Contrarian investors take advantage of such short-sightedness by buying the stocks when they are undervalued, anticipating that their valuation will rise when the market recognizes their worth more accurately.

"Only those who will be sellers of equities in the near future should be happy at seeing stocks rise," said Warren Buffet, widely considered one of the best investors alive, explaining his contrarian philosophy. "Prospective purchasers should much prefer sinking prices."

The question is, to what degree is contrarian investing consistent with socially responsible investing (SRI), and to what degree is it, well, contrary?

"In my view, contrarian investing is completely compatible with SRI," says Jerry Dodson, founding president of Parnassus Investments, which self-identifies as a contrarian SRI firm. "The idea of contrarian investing is that you buy a stock when the price is down, usually after something negative happens to the company from a financial--not a social--point of view."

"A financial reverse does not mean that a company is not socially responsible," Mr. Dodson told SocialFunds.com.

Social investors use many of the same financial analysis methods as those employed by traditional investors, so adding contrarian considerations to the toolbox only makes sense.

Judy Seid, a certified financial planner and founding president of San Diego-based Blue Summit Financial Group, wholeheartedly agrees that "SRI can definitely be consistent with contrarian investing philosophies." However, she also posits one cautionary note.

"SRI investors are not necessarily trying to time market trends as a contrarian might," Ms. Seid told SocialFunds.com. "An SRI investor uses a value-centric compass to guide their decisions with their sights on long-term performance, rather than taking a market-timing approach with hopes of short-term gains."

"Social investors want their money to help support companies that are doing the 'right' things could possibly feel that 'timing' these stocks is counter towards that goal," she adds, before ultimately rebutting this line of reasoning. "I see using a contrarian approach as simply an additional way to make the 'best' stock selection at the 'best' time."

Ms. Seid's colleague Shane Johnston, a financial consultant at Blue Summit, points to a specific sector favored by SRI to illustrate how SRI and contrarian strategies can overlap.

"We saw extreme exuberance towards alternative energy stocks in 2001 when we had a run up in gasoline prices, then a hard drop until 2003 when these stocks went out of favor," Mr. Johnston told SocialFunds.com. "A contrarian would see this as an over-reaction and possibly a good time to buy these stocks."

From an SRI perspective, potential contrarian investments would still need to pass positive and negative screens. So while alternative energy companies would clear positive hurdles on environmental criteria, some might be blocked by exclusionary screens. FPL Group (FPL), for example, is invested heavily in wind energy but potentially could be screened out because it also operates nuclear power plants.

Mr. Dodson cites Intel (INTC) as attractive from both a contrarian and an SRI perspective.

"Intel is selling around $19.00 per share, down from $32 a share, because of strong competition from AMD," he says, referring to microprocessor company Advanced Micro Devices. "I expect Intel to bounce back over the next 12 months because it will bring out new products, and also because it's a financial powerhouse with a lot of assets."

"Intel meets the Parnassus social guidelines because of a strong environmental protection policy and a great workplace," he adds. "It appears on the Fortune list of the 100 Best Companies to Work For."

Ms Seid and Mr. Johnston point to two other potential SRI contrarian picks: Martek Biosciences (MATK), which produces a baby formula additive from natural algae that mimics mothers' breast milk, and Trex (TWP), which makes wood-like products out recycled plastic grocery bags.

"Martek has suffered because supply has not been able to keep up with demand," says Ms. Seid.

"Trex is out of favor right now due to having had some poor earning as well as increased competition with other products coming to market," adds Mr. Johnston.

Stepping back, Ms. Seid (who has specialized in SRI for a dozen years) draws a more philosophical analogy between contrarianism and SRI.

"Many of us who have been promoting SRI for the last 10 to 20 years have felt a bit like contrarians at times," Ms. Seid reflects. "Given the history of the industry and the uphill battles that have been fought and sometimes lost urging boards, shareholders, fellow activists, and governments to play a more participatory role with corporate governance, it has been perceived as an 'out of favor' trend to back SRI investments."

"However, today we are seeing a huge paradigm shift in the marketplace with SRI investments becoming quite mainstream," she adds. "Yesterday's contrarian social investor is today's savvy shareholder, taking actions to ensure the continued growth and success of the companies of which they hold stake."

 

 
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