Socially Responsible Investing—The Next Phase

Socially responsible investing (SRI) has come a long way from its days when it generally meant not buying shares of companies in industries like tobacco, firearms, or gambling. Now, ­investors can consider a broad range of corporate behavior under the umbrella of so-called “ESG” factors—environmental, social and governance. The acronym ESG represents the latest stage in the evolution from merely screening out industries or companies. Most ESG portfolios not only avoid certain industries, they integrate industry-specific factors into the fundamental research process and thus favor companies that actively promote best practices on ESG issues. As a result, ESG investing is ­sometimes also referred to as “impact” investing.

Impact investing considers many factors and therefore has become more of a subjective judgment in the investment decision process. Looking at the various aspects helps to explain some of the ambiguity that ESG investing entails. Environmental concerns are reflected in actions taken by a company that threaten climate change or a depletion of natural resources. One example is nuclear energy. Responsible ­investing would often preclude an investment in a company that is associated with the ­construction or operation of nuclear power plants. Some funds, on the other hand, only exclude “high risk” facilities, arguing that nuclear energy does have a role to play in the world energy requirements. Social concerns, which may include diversity in the workplace, human rights, consumer protection, and animal welfare are topics that often garner the headlines. Apple Inc., in the last few years, has been in the news for its use of “sweatshops” in China. For some ESG funds, this issue may make an investment in Apple off limits. Other funds may be less rigid and invest in Apple because they consider that its overall ESG factors are better than average. Corporate governance concerns may also be factors but since they refer mostly to ­management structure, executive compensation, and accounting practices, they are usually easier to discern and quantify.