Socially Responsible Finance and Investing

Definition

Socially Responsible Investment (SRI) is an investment strategy that brings out a positive change by considering both financial return and social or environmental good. Socially Responsible Investment (SRI) also known as sustainable investing and responsible investing and impact investing which creates a huge impact in society through investment. One of the common reasons for socially responsible investment is to ignore investment in businesses that involved in alcohol, gambling, tobacco, fast food, pornography, weapons and etc. and finding out companies that involved in social justice, environmental sustainability, corporate governance, and alternative energy clean technology efforts.

The term socially responsible investing refers to practices that screening the companies involved in an investment portfolio to avoid any harm for peoples and society. Socially responsible investments can be made in individual companies or through a socially conscious mutual fund or exchange-traded fund (ETF). There are two main goals in socially responsible investments which are social impact and financial gain, where it doesn’t mean we always achieve these two goals together just because an investment touts it as socially responsible doesn't mean that it will provide investors with a good return.

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One example of socially responsible investing is community investing, where they help the community and have been unable to garner funds from other sources, such as banks and financial institutions. The organization uses the funds to provide affordable housing and loan services to their communities to improve their quality of life by not always depending on government assistance.

Socially responsible investment is one of the ways to improve your financial status by making differences in communities.

It allows you to invest in social causes you care about and this type of investing has experienced significant growth in recent years

History

John Wesley is the adopter of SRI in 1703 – 1791, who is the founder of Methodism. Consequently, they avoid business practices that harm the neighbors and avoid investing and partnering with those who earn money from industries like tobacco, weapons, alcohol, tanning, chemical production, and gambling, which can harm the health of workers. Other than that, that time socially responsible investment was religiously motivated to avoid associate with companies that create a negative impact on society.

In the 1960s during the political climate the modern era of socially responsible investing evolved, where socially responsible investors started to give importance to civil rights, labor issues and equality for women. Dr. Martin Luther King started economic development projects like the Montgomery Bus Boycott and the Operation Breadbasket Project in Chicago established the beginning model for socially responsible investing efforts. Concerns to Vietnam War lead to protests against the Vietnam war by students and young people who are dissatisfied with the event and they also started to boycott companies that provide weapons used in the war and other companies that profited by the Vietnam war. Meanwhile, civil rights and racial equality rose in prominence. Community development banks that were established in low-income or minority communities were part of a movement that produced the Civil Rights Act of 1964 and the Voting Rights Act of 1965. In the seventies, environmental protection becomes a consideration for many investors as social activism spread to labor-management issues at corporations.

The first Earth Day was celebrated in 1970 as nuclear power plants were heightened with the accident at the Three Mile Island nuclear power plant which leads to terrible pollution. Other than that, in the same year, they experience a significant breakthrough for socially responsible investment, when Ralph Nader, a consumer advocate, environmentalist, and later independent candidate for president of the United States, succeeded in getting two socially-based resolutions on the annual meeting proxy ballot of General Motors, the country’s largest employer at the time. Although the two votes failed, the first time the Federal Securities Exchange Commission allowed socially responsible issues to appear in a proxy ballot.

The early 1980s were also a time when several mutual funds are funded to meet the needs of socially responsible investors. These funds applied positive and negative screens to their stock selections. The funds included Calvert Social Investment Fund Balanced Portfolio and the Parnassus Fund. The screen includes Methodists policy concerns - weapons, alcohol and tobacco, and gambling but also more on modern issues, such as nuclear energy, environmental pollution, and labor treatment

By 1990 there had been a comfortable proliferation of SRI mutual funds and growth in quality as an investing approach, to warrant an index to live performance. The Domini Social Index, created of four hundred primarily large-capitalization U.S. firms, admire the S&P five hundred, was launched in 1990. The companies were elect to supported a large variety of social and environmental criteria and provided investors with a benchmark to live the performance of screened investments versus their unscreened counterparts. The policy that crystal rectifier to the identification of specific screens and also the engagement of dialogue with corporations with questionable company behavior also propelled the expansion of community investment, another major part of socially accountable finance. Support for community development monetary establishments grew throughout the NineteenSixties as how to handle racial difference.

Nowadays we can see an increase in positive approach towards socially responsible investment including impact investing, and the mainstreaming of sustainable investing, which continues to evolve. With troubles continuing to take place from earnings and wealth inequality to local weather change, expect these trends to solely proceed and enhance going forward especially as sustainability techniques continue to add economic fee to organizations and their shareholders.

SRI Strategy

The first SRI strategy is Positive screening, where they identify companies that provide certain environmental or social benefits. It also involves the active inclusion of companies within an investment universe because of the social or environmental benefits of their products and/or processes. This screening uses ESG performance criteria and financial characteristics to select the best companies within an industry or sector, usually relying on a sustainability rating framework. This is usually a more knowledge-intensive process than exclusionary screening because it requires understanding which factors are relevant for each industry and evaluating individual issuers on each of these factors. For example, all water companies; resource efficiency, tackling climate change; health, and education are included in a universe on account of the social. Positive screening also takes a best-in-class approach, wherein each sector only select best performers on the range of criteria such as their records on pollution and human rights.

The second SRI strategy is Negative screening is avoided by investing individual companies that do not meet ethical criteria and companies' activities that conflict with investor’s value. This process can be quite flexible as it can rely either on standard sets of exclusion criteria or be tailored to investor preferences.  For instance, investors may wish to exclude companies with revenue generated from alcohol, weapons, tobacco, adult entertainment or gambling and pornography. Some investors also exclude companies involved in contraception and abortion-related activities. In the case of government bonds, investors may seek to avoid an entire country based on the sovereign’s compliance with select international standards like human rights or labor standards. Negative screening also refers to moral or religious grounds called Shariah fund which is an Islamic principle where they avoid activities that are forbidden like the sale of alcohol, pork products, tobacco, gambling and pornography

The next SRI strategy is Engagement which known as shareholder activism. Engagement policy aims to influence corporate behavior to change positively by the use of shareholder power, such as via communicating with management, filing resolutions for more transparency, disclosure, and proxy voting. The influence of shareholder engagement on ESG issues has risen in recent years. The majority of the proposals filed have been focused on the political activities of corporations, the environment, human rights/diversity, and governance. The common practice is to participate in shareholder resolutions, which are petitions drawn up by groups of shareholders that are presented to all the owners of the company for the vote. They urge management or the board of directors to take action on the particular concern.

The last SRI strategy is integration where it involves assessing the ESG risks and opportunities, in addition to the financial prospects, of a particular investment when undertaking investment analysis. It is difficult to assess how an investment manager is integrating ESG factors, and whether this integration has a particular impact on a company’s behavior or attitude to sustainable development as SRI become a mainstream investment strategy. This approach has gained traction in recent years and is based on the premise that additional ESG information not covered by traditional analysis could have an impact on the long-term financial performance of a company. ESG integration involves understanding how companies handle social, environmental, and governance risks that could damage their reputations and whether they are positioned to capture ESG.

Providing evidence to support SRI strategies had been applied worldwide by institutional investor

Investors have different reasons and motives for engaging in SRI. Socially responsible investing has been a theme in the global financial markets for decades. Some institutional investors use negative screens to exclude sectors like tobacco or alcohol, while others strive to support sustainability through investments in renewable energy, community housing, microfinance and other fields. Today, a growing number of institutional investors and asset managers are focusing on integrating a company’s environmental, social and governance (ESG) policies and practices with traditional financial analytic tools. For institutional investors, legislation is the main reason for initial engagement in SRI. For example, in the UK in 2000, legislation was passed that forced pension funds to report the social, environmental or ethical considerations involved in the investment. In the early 2000s, similar legislation was passed in Sweden, Norway, and Denmark. This legislation strongly motivated pension funds to move towards SRI.

Sparkes and Cowton in 2004 the maturing of socially responsible investment find that pressure by actual and future beneficiaries is a second reason for institutional investors to start practising SRI. Although such pressure is generally considered a major motivation for engagement in SRI, little research is available that actually proves the influence of beneficiaries and analyses their role in driving pension funds towards SRI.

Financial motives as a reason for engagement in SRI have received much greater attention in the literature. Since the late 1990s, increasingly more shareholders have examined the relationship between the social and environmental performance of companies and their financial performance and have even requested that companies disclose information on this relationship. While there may be financial motives for SRI, one cannot conclude that SRI always leads to better financial results. There is abundant literature available investigating the effect of

SRI on financial results

The research from the global financial analytics firm reveals that the institutional investing market as a whole benefited from strong equity performance in 2013. The defined benefit channel still contains the most assets, with a combined public and private figure of slightly more than $6 trillion. However, asset growth in this segment is slowing, and Cerulli expects defined contribution assets to grow at nearly three times the rate of DB assets in the years ahead.

In 2015, Japan’s largest pension fund signed the UN Principles for Responsible Investing and immediately allocated 3 % of its $1.3 trillion in assets under management to sustainable strategies. The fund pledges to increase its allocation to SRI investments to 10% over time.
Asia has long lagged behind the U.S. and Europe in applying ESG analysis and standards to portfolio holdings focusing instead on traditional financial research. The region has less than 1% of its total assets invested in SRI assets according to the Global Sustainable Investment Alliance’s 2016 Global Sustainable Investment Review. Asia has around $52 billion in assets managed according to some type of SRI strategy a category that includes nearly $20 billion in assets managed according to Sharia principles, rather than more conventional ESG strategies. But with the emergence of Japan as an ESG powerhouse and the increasing commitment of China to green finance, sustainable investment is rapidly expanding in Asia.

China has taken a leadership role by building financing infrastructure to support its vast drive toward sustainability. China is expected to invest $2.2 trillion in sectors including renewable power, waste and water management, and pollution control through 2020, according to energy consultants ENEA. At the same time, China has emerged as the world’s largest issuer of climate aligned bonds according to CBI with $220 billion in issuances. The country is now in the process of developing a labeled green bond market.

SRI strategies can be applied across asset classes to promote stronger corporate social responsibility, build long-term value for companies and their stakeholders, and foster businesses or introduce products that will yield community and environmental benefits.

Analysis of corporate governance matters that are associated with SRI worldwide. Corporate governance the 'G' in ESG always gets the least attention, but it’s another important way that companies can make a positive impact. Good governance seeks to effectively balance the needs of executives and shareholders, which should be good for investors.  Companies with good governance practices aim to operate in a fair and ethical way. They address issues around pay, including executive compensation, minimum wage and pay equality. These companies usually have policies in place to prevent bribery and avoid corruption.

Most sustainable responsible impact (SRI) funds invest in companies with good environmental, social, and governance (ESG) policies, and some funds engage directly with companies to help them improve their governance practices.

The corporate governance matters that are associated with SRI is Greater Diversity. Since 2012, Pax World Investments has filed gender diversity proposals at eight major companies. Five of those companies, including eBay, subsequently added new female directors. Studies suggest that companies with more women on their boards of directors had better performance.

Another corporate governance matters that are associated with SRI is ethical business practices. Parnassus Investments decided not to invest in Valeant, a pharmaceutical company because it questioned the company’s business model where Valeant faced allegations on it defrauded insurers. In 2016 its stock price fell 86% and the company’s executives were faced criminal charges.

Other corporate governance matters that are associated with SRI is a ‘say on pay’. Funds and organizations have been focused on executive pay for years because CEO pay in the U.S. has grown out of proportion to the economic or financial growth of companies.  Since excessive CEO pay comes right out of a company’s bottom line, it has been connected to future company performance. Efforts for reasonable pay got a boost when the SEC began requiring firms to disclose compensation packages in 2007. But there’s still work to do, and fund companies like Domini, Walden, and Trillium continue to engage with companies like AT& T, Target, Citigroup, JPMorgan Chase and Pfizer to give their boards or their shareholders a say on pay. Domini has also worked with companies to reform the minimum wage. Domini met with Best Buy to create a more sustainable workforce through minimum wage reform and improved career options for employees.

Next corporate governance matters that are associated with SRI are a ‘say on pay’ stronger privacy and data security. Good governance also includes keeping customer data safe. Trillium Asset Management has worked with Internet service providers, like Century Link, on their privacy practices, and it engaged with Verizon regarding Verizon’s plans to buy Yahoo, a company that has had some serious data breaches. Most sustainable funds focus on all three branches of ESG environmental, social, and governance. In the sustainably responsible impact portfolios that manage, aim to invest in diversified funds that have good ESG ratings and also have strong recent returns, and one fund that currently fits the bill is Parnassus Endeavor. It’s a fund that invests in companies that are great places to work, and this focus has paid off.
Focus on ethics also one of the corporate governance matters that are associated with SRI. Corporate governance’s becoming a permanent focus for investors is the launch of a new mutual fund. The Watchdog Fund, an open-ended fund will invest in companies to reward good governance practices. It also will take positions in public companies that need to improve their behavior.