17/07/2008 2:27 pm
Socially responsible investment (SRI) is the consideration of non-financial factors in all types of management. This approach has been increasingly popular since 2000, although it represents a relatively small percentage of the overall financial asset industry. Europe is the most dynamic region in the world in terms of the innovation and creation of SRI funds. Compared to 2003 data, in 2006 the European SRI market rose 36% on average (Eurosif study). However, the strictest practices represent only €100bn in assets, or 1% of overall European assets. The first SRI fund was created in 1971 in the United States and by end-2005 investments totalled $2.29 trillion, or 12% of U.S. assets, according to a very broad definition of SRI. [Debate]
Some emerging economies such as South Korea, Malaysia and South Africa are beginning to invest in ethical funds. In Europe, at January 1, 2006, 96% of the SRI market was dominated by institutional investors, but individual investors’ market share is on the rise. A European study (IFOP, June 2007) on “individual shareholders and SRI” shows that only 33% of investors have heard of “socially responsible investment”. [Debate]
Principles for Responsible Investment
On April 27th 2006, the United Nations launched their Principles for Responsible Investment (PRI). There are six of them and they consist in getting the investors who have signed up for them to take extra-financial factors into consideration in their investment decisions. In the summer of 2007, 200 international investors had signed up for the PRIs; that is investors weighing a total of 900,000 billion US dollars. The PRIs are a first step towards integrating the ESG to their financial management.
In England, since 2000, pension funds are obliged to show the ways in which they take social, environmental and ethical information into consideration in their investment strategies. Germany (2002), Sweden, and Belgium have adopted similar legislation. In France, the law on the law on employee savings (2001) makes it obligatory to include the offer of a complementary financial product. The law on new economic regulations (2001) forces companies quoted on the stock market to publish a social and environmental report. In Spain, an obligation to indicate the investment policies of pension funds has been adopted.
ESG criteria applied to companies
Ratings agencies conduct audits to draw a comparison between the non-financial performances of companies and they decide on an overall rating based on weighted criteria. Banks and asset management firms establish their own SRI evaluation and selection systems. Some ratings agencies collaborate with stock market index companies to create specific SRI indices, for example ASPI Eurozone, Dow Jones Sustainability and FTSE4Good, among the 14 indices in existence. Companies notably use a listing on these indices as a public relations tool to highlight their sustainable development policies.
Several approaches for one type of fund
SRI includes every approach that applies, in addition to financial criteria, social and environmental criteria or more broadly social responsibility to investment decision-making and portfolio management. These financial products, called ethical funds, may be classified as follows:
- Sustainable development funds are based on a company’s economic, social and environmental performance. They identify the best players (positive selection) establishing specific systems of reference and methodologies to compare companies, selecting companies based on certain criteria.
- Funds that apply negative screening refuse to buy shares in companies carrying out certain activities or practices that contradict the investors’ beliefs: tobacco, alcohol, weapons, gambling, pornography, child labour, animal testing, etc. Companies operating in countries ruled by dictatorships or carrying out environmentally harmful activities (nuclear development, the trafficking of natural resources, etc.) may also be excluded. These funds are very common in English-speaking countries.
- Sharing funds donate a percentage of their profits to charities and NGOs and are generally invested in bonds, which may be selected based on social responsibility-related criteria
- SRI financial instruments fund socially-oriented business activities (companies that specifically employ people who have difficulty finding a job, micro-credit companies, etc.)
Another form of SRI is shareholder activism, where investors try to influence a company on social and environmental issues, first through private dialogue, then if this fails, through a discussion at the company’s general meeting. The activism of some international shareholders is one of the factors encouraging businesses to establish policies for social responsibility, improved practices, transparency of the social and environmental effects of their investments, etc.
SRI involves four main types of players:
- individual and institutional investors, who increasingly consider environmental, social and governance (ESG) criteria in their investment decisions, while also seeking profitability
- asset management firms that create and manage portfolios for investors
- providers of specific information on corporate responsibility (notably ratings agencies)
- invested companies; the consideration of non-financial criteria while seeking performance satisfies both the need to include qualitative concerns linked to social responsibility and to reduce risks taken in the medium and long term (for example: anticipate the risks linked to fossil fuel scarcity, poverty, climate change, etc.)
In addition to these players, countries and international organisations can also promote SRI, or not, through regulation. Consumers can encourage companies and investors to change their practices by demanding greater transparency, as well as NGOs that criticise companies through major advertising campaigns.
Created during the late 90s, non-financial ratings agencies evaluate and rate the social and environmental responsibility policies as well as the governance of companies, mostly for investors. There are about thirty of them in Europe, North America and Asia. They work by analysing public documents, conducting special surveys and meeting with company officials. They can be divided into two categories: non-profit organisations (associations such as CAER and EIRIS) and companies (Vigeo, SCORIS, SiRi Company and various specialised consultants). [Debate]
The development of SRI is difficult to measure as assessment criteria vary from country to country. For example:
- In England, SRI is mainly represented by funds that apply negative screening. At end-2005, the market represented €781bn. Individual investors’ market share: 4% in 2006.
- Between 2004 and 2006, Canadian SRI market assets increased from $65bn to $504bn by June 30, 2006, growing by almost 700%. SRI represents almost 20% of assets under management in Canada. Individual investors’ market share: 60% in 2006.
- Australia’s SRI market rose to almost $30bn by June 30, 2006. Between 2000 and 2006, collectively managed SRI funds grew 3587%. Institutional investors, notably religious entities and pension funds, dominate the Australian SRI market with 75% of assets. Main approaches include positive and negative screening of companies, and shareholder activism is increasingly popular.
- In France, assets increased from €8.8bn at end-2005 to €16.6bn at end-2006. Positive selection is the most popular approach. Individual investors’ market share: 37% in 2006.
- In Spain, assets recorded a huge increase of almost 2000%, from €79m in 2003 to €1.5bn at end-2005. Individual investors’ market share: 3% in 2006.
- In emerging countries, notably Brazil, Malaysia, South Africa, South Korea, Taiwan and Thailand, ethical funds represent about 0.1% of the total SRI market, with the greatest percentage of assets managed in South Korea ($2.17bn). Negative screening for ethical reasons is increasing in countries where Islamic finance is thriving, for example Malaysia.