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Socially Responsible Investors' Advantage over
Traditional Investors:
Stock prices will have to reflect
internal social costs if new regulations pass Congress
From the point
of view of the socially responsible investment (“SRI”)
analyst versus the traditional analyst, one important
characteristic of 2009 is the extensive legislation
aimed at a variety of practices with negative spillover
effects, from predatory lending to pollution.
The Congressional agenda
includes plans for new regulations in the financial,
health care, energy and utility sectors.
From an investment
perspective, these sectors add up to about one-third of
the S&P 500.
How one
navigates and anticipates the restructuring of these
economic sectors will impact investment returns.
Since several of the issues
on the reform agenda are ones which socially responsible
investors have historically attempted to take into
account, one can argue that SRI funds may be better
positioned to benefit from the reforms than other funds.
Thus, even if you have not
historically had an interest in socially responsible
investing, it may pay to be aware of the issues where
SRI and the 2009 legislative agenda overlap.
To zoom in on
the most visible example, the current energy plan before
the Senate and passed by the House as H.R. 2454:
American Clean Energy and Security Act of 2009, includes
a plan to make companies account for the cost of their
carbon footprint, something which many SRI investors
have been attempting to incorporate in their stock price
analysis through proxy cost estimates for a long time.
If the legislation is
enacted, everyone, both SRI and traditional fund
managers, will be explicitly incorporating carbon costs
in their financial models, and SRI managers will have a
leg up because they have already been doing this
analysis.
The intriguing
part of SRI is where a client’s values are effectively a
proxy for an
external cost or spillover
effect.
External social costs are
important and difficult to analyze components of the
economy which may be either positive, such as the
positive network effects seen in the adoption of the
internet and social media, or negative, such as the
negative environmental effects of greenhouse gas
emissions.
When the consideration of a company’s
environmental, social or governance profile helps an
analyst better understand these positive and negative
spillover effects, and thus long-term financial risks
and opportunities faced by a company, the SRI portfolio
manager may have an advantage over the traditional fund
manager.
The problems are:
-
Frequently, external social costs
aren’t captured or quantified because they are
difficult or impossible to measure, and
-
Even if one can quantify the
spillover effects, one may observe them for decades
yet the costs may never show up on company financial
statements.
Carbon cost
accounting is only one example. Investors need to ask
what other social costs may be brought onto company
financial statements through legislation, litigation or
activism.
What will be the intended
and unintended consequences of this process?
How will the difficult
problems of measurement and quantification be solved?
Although the financial crisis which
began in 2008 may be over, the long-term restructuring
of the economy which the financial crisis set into
motion is not. One of the more interesting aspects of
2009 from the point of view of the socially responsible
investor will be the extent to which the reforms of 2009
compel companies to internally account for certain
negative external social costs. SRI portfolio managers
who have already been doing this analysis will have a
distinct lead over the traditional analysts.
To learn
more about SRI investing and solutions for your clients,
please visit the AHA Funds by clicking on the
Advisors Inner Circle
logo of this
newsletter or visiting
www.AHAFunds.org.
____________________________________
Disclaimer: The analysis
and opinions expressed in this report are subject to
change without notice.
They do not represent a buy or sell
recommendation and should not be viewed as a promise of
future performance.
For Institutional Investor Use Only. Not intended for
public distribution
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