March 25, 2011
Definitions May Vary, but Sustainable Investment Can Outperform
by Robert Kropp
A review of recent academic literature on sustainable investment by Kimberly Gladman of
GovernanceMetrics International finds that incorporating environmental, social, and corporate
governance factors can improve investment performance.
In a review of recent academic literature on sustainable investment, Kimberly Gladman, Director of
Research and Risk Analytics at GovernanceMetrics International (GMI) has identified more
than two dozen studies published during the past three years that focus "on the empirical impact of
responsible investment strategies on performance." From these studies, Gladman has written a review
entitled Ten Things to Know About Responsible Investment & Performance.
Sustainable investment has undergone an evolution over the years, from exclusionary
screening from portfolios of companies in industries such as tobacco to a best-in-class approach.
The best-in-class approach ranks companies by their environmental, social, and corporate governance
(ESG) reporting and performance, and is generally perceived as allowing for greater diversification
of an investor's holdings. An example of the best-in-class approach, Gladman writes, occurs when
investors "choose electric utilities whose carbon emissions are lower than the industry average, or
retailers whose employee benefits are more generous than is typical."
Yet despite the
convergence of much of the field upon an investment approach, definitions of sustainable investment
continue to vary. Corporate governance advocates, according to Gladman, "Analyze the issuer's
relationships with multiple stakeholders who make contributions to its business and are affected by
its operations." These stakeholders can include employees, customers, communities, governments, and
the environment, as well as investors, Gladman continued.
The importance of good corporate
governance was underscored recently in a conversation with Anthony Miller, the Economic Affairs
Officer for the Investment and Enterprise Division of the United Nations Conference on Trade and Development (UNCTAD), who
told SocialFunds.com, "We have to remember that without good governance mechanisms, there is no
Nevertheless, in her review of academic studies, Gladman found
that many equity managers continue to focus on a small number of ESG issues in their analyses.
While Gladman concluded that the performance of sustainable investment approaches has been
roughly equal to that of mainstream methods, she does note that studies of specific ESG factors
have revealed a potential for outperformance in several cases. Furthermore, studies have found
"that firms defined as leaders in corporate responsibility have lower idiosyncratic risk," and
"that companies with better CSR (corporate social responsibility) records…tended to have higher
In addition, although the impact of ESG issues can vary according to a number
of factors, investment analysis that makes use of ESG factors can be better positioned to forecast
the long-term performance of a company. Sustainable investors can benefit by factoring in the cost
of externalities as well. Citing a 2010 study by Trucost, Gladman reports "that the cost of
environmental damage caused by the world’s 3,000 largest public companies amounts to $2.15 trillion
Given the variety of sustainable investment approaches and the current
difficulty in pricing externalities, it is not surprising to learn from Gladman that sustainable
investment remains a specialized skill. One report, she writes, "Found that (funds) sponsored by
management companies specializing in responsible investment significantly outperformed conventional
funds. Those run by generalist companies, however, underperformed."