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January 28, 2012
Book Review: Evolutions in Sustainable Investing: Strategies, Funds and Thought Leadership
    by Robert Kropp

Trucost executive Cary Krosinsky edits a book of essays demonstrating that sustainable investment in an era of growing resource scarcity yields significant opportunities for portfolio outperformance.


In his introduction to the 38 chapters that comprise the new book Evolutions in Sustainable Investing: Strategies, Funds and Thought Leadership, Cary Krosinsky writes, "This book in effect charts the history of SRI (socially responsible investing)." It isn't, in reality, quite the case; the book pays little attention to the earlier days of the SRI industry, which culminated with the shareowner action that is widely considered to have been a major turning point in ending apartheid in South Africa and in the formation of the Global Sullivan Principles of Social Responsibility.

Furthermore, the book devotes relatively little space to the traditional SRI pillars of shareowner activism and community investment. While there is some discussion of the former in the chapters devoted to specific asset management firms, neither subject earns a chapter of its own. In fact, neither is even listed as a subject in the book's index.

Addressing the negative screening practices of traditional SRI—the "unsophisticated screens" which, he argues, accounts for 90% of the trillions of dollars invested in "a socially responsible manner" in the US—Krosinsky writes, "Take a purely values-based approach, and you risk missing the very same practical opportunities in eco-efficiency and innovation, where the sustainability we require will come from."

Instead, the beginning of the history compiled by Krosinsky and his associates can perhaps be located in the 1987 report by the Brundtland Commission, which famously defined sustainability as "development that meets the needs of the present without compromising the ability of future generations to meet their own needs."

The basic thesis of the book, and the overarching rationale for sustainable investing proposed by it, is as straightforward as it is compelling: due to such factors as population growth and climate change, the world is entering an era of resource scarcity. Companies that recognize the risks associated with the realities of the new era, and exploit the opportunities for innovation that adaptation to scarcity requires, will have positioned themselves to outperform their lagging peers.

Likewise, investors who take into account the realities will benefit from a sustainable investment strategy that, in the words of Nick Robins, Head of the Climate Change Center of Excellence at HSBC, has as one of its features a "forward-looking, prospective methodology which we argue will systematically add value over time."

In one of the book's chapters, Krosinsky described the framework that is necessary "to judge companies that are looking to succeed in a changing world while positioning themselves best from a risk standpoint." Expanding upon the traditional environmental, social, and corporate governance (ESG) criteria, Krosinsky instead proposes investment criteria that incorporate five factors: in addition to ESG, he includes traditional financial criteria and quality of management.

"Investing and measuring without the framework offered in this chapter," Krosinsky writes, "Inevitably ignores some or all the risks that are critical to a company's success."

Of course, the approach to sustainable investing espoused by Krosinsky depends upon effective measurement, which is not surprising; he is, after all, a Senior Vice President at Trucost, a leading environmental research firm that maintains the world's largest database of corporate greenhouse gas (GHG) emissions.

The quality of ESG research has improved considerably since Paul Hawken, the author of Natural Capitalism and a contributor to Evolutions in Sustainable Investing, wrote in a 2004 paper on SRI, "Over 300 different criteria are employed today versus only five 20 years ago. But the granularity of the screening misses the most important screen of all, the business model or intention."

The improvement occurred thanks in large part to the efforts of firms such as Trucost. In a chapter of the book devoted to the environmental metrics compiled by Trucost, Senior Vice President James Salo describes the approach that sustainable investors must take. Focusing on the most important area of environmental performance for each asset; understanding such drivers of value as operational efficiency, capacity for innovation, and reputation; and the monetization or benchmarking of environmental performance "have a strong potential to drive investment outperformance in the long term," Salo writes.

The book's chapters provide informative commentaries on the histories of several sustainable asset management firms, dating back to the early 1990s when Wall Street dismissed sustainable funds as being insufficiently diversified. But once it establishes the groundwork for a contemporary definition of effective sustainable investment, the book comes fully to life as it investigates the nexus of investment opportunity in an era of resource scarcity: emerging markets.

No fewer than six of the book's chapters address sustainable investment in Asia, Africa, and India. While challenges to the uptake of the practice in these regions remain considerable—the prevalence of state-owned companies in Asia, widespread poverty in Africa and India—efforts are underway to improve the ESG reporting of companies, and increasing investment by institutional investors committed to sustainability should help improve the long-term performance of companies located in these frontiers of investment.

In a chapter on sustainable stock indexes, Graham Sinclair of AfricaSIF, the African sustainable investment forum, describes how guidelines from the Johannesburg Stock Exchange (JSE) have led to increased ESG disclosure by listed companies. In 2010, JSE began requiring its more than 450 companies to produce integrated reports, which combine financial data with reporting on ESG issues.

In Brazil, BM&FBOVESPA, the Brazilian Stock Exchange, launched a Corporate Sustainability Index that "reflects the real business sustainability of listed companies and incorporates the evolution of sustainability practices and theoretical benchmarks," Sinclair writes.

Earlier this year, after Evolutions in Sustainable Investment went to press, BM&FBOVESPA announced that it will recommend that listed companies either produce a sustainability report or explain why they do not.

This writer found it enlightening that Krosinsky described Hawken's 2004 paper as "a landmark piece well worth reading." It may be a sign of either a maturing industry or a growing global crisis, or both, but Krosinsky envisions when rational investors in the mainstream will have to invest sustainably. Hawken, on the other hand, set financial considerations aside for the most part, arguing that SRI research should identify companies whose products and services "are helpful to the world we inhabit."

In an era marked by corporate governance scandals and impending resource scarcity, the two approaches no longer seem mutually exclusive. As sustainable investment research becomes more sophisticated, the strategy's potential for long-term outperformance increases. The same research should help the traditional values-based investor more accurately identify those companies whose operations contribute to a more sustainable world.

Krosinsky may well disagree with the notion of a potential convergence of traditional SRI with sustainable investing. After all, in a chapter entitled "On Performance," he demonstrates that ESG funds outperform their benchmarks, while SRI funds do not. But as Hawken argued in his 2004 paper, "What does it matter if one fast food company is singled out as 'best in class'…if you are going the wrong way, it doesn't matter how you get there."

 

 
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