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December 18, 2008
Book Review: Investing for Change: Profit from Responsible Investment
    by Robert Kropp

Authors Augustin Landier and Vinay B. Nair trace the history of SRI and suggest modifications to traditional screening methods in order to increase profitability.

"Investing for Change: Profit from Responsible Investment" is a study of SRI that can be appreciated by both novice and expert. As academics, Augustin Landier and Vinay B. Nair have authored a work that provides the reader with valuable historical perspective and a lucid analysis of the complexities of the investment universe. As the founders of Ada Investment Management, a New York-based asset management firm, they have authored a guide for the decision-making process of the socially responsible investor. Their efforts in both areas are successful.

In the book, the authors reflect that the modern practice of socially responsible investing (SRI) began in the eighteenth century with the Quakers. From its faith-based origins—which led to the first modern SRI mutual fund, Pax World, created in 1971 by Methodist ministers—SRI has grown to encompass secular causes. The SRI movement's first notable victory was its opposition to apartheid in South Africa. According to Landier and Nair, "The decline in investment eventually forced a group of businesses, representing 75% of South African employers, to draft a charter calling for an end to apartheid."

SRI has since grown to encompass a range of social and environmental issues, including corporate governance, climate change and human rights in corporate supply chains. Shareowner resolutions increase in numbers and gain more support in proxy voting every year. By the end of 2005 socially responsible investing totaled $2.3 trillion, or 10% of all assets under management in the United States at the time. The number of socially responsible funds "has increased fifteenfold since 1995," to 200 by 2007.

Yet even with such clearly articulated benchmarks of success for SRI, skepticism continues in some quarters regarding its effectiveness. Critics question whether socially responsible investing can earn profits over time, especially in times of market downturn, when the screening practices of SRI result in portfolios less diversified than those of mainstream investors.

In fact, Landier and Nair support the argument that the lessened diversification of most SRI portfolios does lead to decreased profitability. The authors argue that the traditional negative screening practices of SRI, and the exclusion of so-called "sin stocks" from portfolios, could lead to a "Faustian choice" between values and profits. Furthermore, the exclusion from SRI portfolios of tobacco companies, for instance, does nothing to compel those companies to change the way they do business. To expect tobacco companies to stop selling tobacco because responsible investors sell their stocks is unrealistic, the authors find.

Yet a middle ground between investment based on strictly moral principles and investment based entirely upon profits has emerged, which the authors call "industry-agnostic" investing. According to this method of investing, the fund manager trying to construct an industry-agnostic portfolio applies a "best-in-class" methodology, in which information on corporate social responsibility is used to exclude the least responsible companies. The method does not exclude broad industries, and the resulting portfolio will include companies in industries such as tobacco.

As an example of the growing popularity of an industry-agnostic approach to responsible investing, the authors report that in November 2006, KLD Research and Analytics, a research company that provides corporate social responsibility information, launched its Global Sustainability Index. Unlike KLD's previous indices, the authors report, "this index does not exclude industries outright but selects stocks on the basis of their environmental, social, and governance performance."

According to the authors, not only should the increased diversification of an industry-agnostic portfolio improve the profitability of responsible investing. In addition, they note, "Advocates argue that using industry-agnostic screens creates powerful incentives for all companies to improve their responsibility standards and that industry exclusion does not have this effect."

In the final analysis, the authors argue that socially responsible investing can continue to grow only if it does not underperform against mainstream investment practices. The authors point to several factors—research that suggests a correlation between corporate responsibility and profitability, especially in certain industries; the likelihood of increased government regulation in the environmental realm; and the outperformance of the stocks of highly responsible companies, to name a few—to argue that the profitability of SRI will continue to grow.

In fact, Landier and Nair point to a number of trends to support their argument that the share of SRI capital should double within the next few years. These trends include the standardization of information by such initiatives as the Carbon Disclosure Project and the Global Reporting Initiative; the development of the Principles for Responsible Investment; and the professional rise of women, who, it is estimated, make up 60% of socially conscious investors.


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