RESPONSIBLE INVESTMENT
SRI PERFORMANCE, TYPES OF SRI, SUSTAINABLE INVESTING
Ing. Pavel Adámek, Ph.D.
CORPORATE SOCIAL RESPONSIBILITY/PEM-NACSR
RESPONSIBLE INVESTMENT
OUTLINE OF THE LECTURE
1. Introduction of the Socilly Responsible Investment
2. Categories of Responsible Investment
3. The state of European SRI
RESPONSIBLE INVESTMENT
INTRODUCTION
• Responsible investment is an approach to investing that aims to incorporate
environmental, social and governance (ESG) factors into investment
decisions, to better manage risk and generate sustainable, long-term returns.
• Socially responsible investing (SRI) refers to financial contributions into
investment tools designed to combine the traditional investment philosophy
favoring profit-maximization with a values-based component seeking nonfinancial
benefits.
• Such non-financial benefits are often referred to as social returns.
– These social returns vary in scope but can be broadly defined as company policies and
actions that enhance a socially responsible investor’s specific environmental, religious or
social values.
RESPONSIBLE INVESTMENT
INTRODUCTION
The global momentum around responsible investment is driven by:
– recognition in the financial community that ESG factors play a
material role in determining risk and return;
– understanding that incorporating ESG factors is part of investors’
fiduciary duty to their clients and beneficiaries;
– concern about the impact of short-termism on company performance,
investment returns and market behavior;
– legal requirements protecting the long-term interests of beneficiaries;
– pressure from competitors seeking to differentiate themselves by
offering responsible investment services as a competitive advantage;
RESPONSIBLE INVESTMENT
INTRODUCTION
The global momentum around responsible investment is driven by:
– beneficiaries becoming ever-more active and demanding transparency
about where and how their money is being invested;
– value-destroying reputational risk from issues such as climate change,
pollution, working conditions, employee diversity, corruption and
aggressive tax strategies in a world of globalised and social media.
• SRI has changed from an activity carried out by a small number of specialist
retail investment funds (in the form of unit trusts and mutual funds), probably
of negligible or minor economic importance, into an investment philosophy
adopted by a growing proportion of large investment institutions, i.e. large
pension funds and insurance companies.
RESPONSIBLE INVESTMENT
INTRODUCTION
What value does responsible investment create?
Three forms of value creation are identified below: financial value from both
capital allocation and engagement; and non-financial value.
Financial value: ESG-driven capital allocation
The direct financial value for investors and their beneficiaries/clients created by active ESG
strategies may take the form of:
• returns in excess of a benchmark (alpha) – derived in part from the more favourable
sustainability exposure of the assets in which the strategy invests
• reduced short-term risk – measured as volatility against a benchmark - as a result of
‘high-ESG’ companies being insulated from earnings shocks and market reactions linked
to the internalisation of sustainability costs
• reduced long-term risk - protection against the long-term risk of absolute loss of value –
as a result of ‘high-ESG’ companies being strategically better positioned than others.
• lower share price volatility
• a more stable, long-term shareholder base.
RESPONSIBLE INVESTMENT
INTRODUCTION
What value does responsible investment create?
Financial value: engagement
The financial value created by engagement may take the form of:
• increased returns or reduced risk as a result of improved sustainability
performance by the companies concerned
• improved returns to the market as a whole as a result of internalising
externalities.
Non-financial value
The non-financial value created by responsible investment might take the form of:
• improved ESG performance by individual companies such as reduced
emissions, fewer human rights breaches, increased job creation, and so on
• improved ESG performance across the market as a whole as a result of policy
engagement, for example better corporate disclosure
• more stable markets provided that responsible investment achieves sufficient
critical mass.
RESPONSIBLE INVESTMENT
INTRODUCTION
There are many ways to invest responsibly. Approaches are typically a
combination of two overarching areas:
Source: https://www.unpri.org/pri/an-introduction-to-responsible-investment/what-is-responsible-investment
RESPONSIBLE INVESTMENT
INTRODUCTION
• Today, major institutional investment groups
such as corporations, hedge funds,
insurance companies, mutual funds,
pension funds, religious institutions and
universities, along with the
environmentally/religiously/sociallymotivated
individual investor, are entering
the realm of socially responsible investing.
• Socially responsible investing is an umbrella
term covering three core investing
groups:
1. environmentally-motivated
investors,
2. religiously-motivated investors and
3. sociallymotivated investors.
RESPONSIBLE INVESTMENT
INTRODUCTION
• Environmentally-motivated investors seek corporate policies
and actions that either benefit, or do no significant harm to, the
environment – both in the Czech Republic and abroad.
• Religiously-motivated investors are guided by specific faithbased
issues such ethical treatment of employees.
• Socially-motivated investors, on the other hand, desire
company policies and practices that adequately address key
social issues as well as corporate governance.
RESPONSIBLE INVESTMENT
INTRODUCTION
• While all three groups seek social returns along with capital
appreciation, the major difference between the groups stems
from the motivations behind their investment practices.
• The history of SRI demonstrates that all three groups played a
prominent role in the establishment of SRI as a major player in
the twenty-first century investing landscape.
• Investors actively seek to identify worthwhile projects that
promise positive impact on society and/or the environment,
besides adequate financial return. In the field of impact
investing, terminologies and investment standards are still
evolving.
– To date, assets under management by Principles for Responsible
Investment (PRI) signatories now stands at more than US$59 trillion
(signaling commitment to responsible investment).
RESPONSIBLE INVESTMENT
Milestones in the evolution of responsible investment
RESPONSIBLE INVESTMENT
1. INTRODUCTION OF THE SOCILLY RESPONSIBLE
INVESTMENT
• What are environmental, social and governance (ESG) factors?
• Examples of environmental, social and governance (ESG)
factors are numerous and ever-shifting. They include impact
objectives:
1. Environemental (E)
– Biodiversity conservation
– Energy and fuel efficiency
– Natural resources conservation
– Pollution prevention & waste management
– Sustainable energy
– Sustainable land use
– Water resources management
RESPONSIBLE INVESTMENT
1. INTRODUCTION OF THE SOCILLY RESPONSIBLE
INVESTMENT
2. Social (S)
– Access to clean water
– Access to energy
– Access to financial services
– Access to education
– Affordable housing
– Agricultural productivity
– Capacity-building
– Community development
– Conflict resolution
– Disease-specific prevention and mitigation
– Employment generation
– Equality and empowerment
– Food security
– Generate funds for charitable giving
– Health improvement
– Income/productivity growth
RESPONSIBLE INVESTMENT
1. INTRODUCTION OF THE SOCILLY RESPONSIBLE
INVESTMENT
3. Governance (G)
– Executive pay
– Bribery and corruption
– Political lobbying and donations
– Board diversity and structure
– Tax strategy
RESPONSIBLE INVESTMENT
1. INTRODUCTION OF THE SOCILLY RESPONSIBLE
INVESTMENT
Reasons for using responsible investing
1. Performance - SRI can help to identify sustainable and profitable investment
themes. If a company has a better ESG profile than its peer, it might be a
positive indicator for its long-term potential for success.
2. Risk forecasting - the analysis of ESG factors is an opportunity for an active
risk management. It can help to understand externalities and to predict
whether a company is prepared for future risks and challenges. Especially
the financial crisis have shown that a bad governance or high exposure to
environmental risks can lead to significant losses for investors.
3. Risk diversification - specialized impact investment themes might have a
low correlation with the traditional financial market and can therefore help to
diversify a portfolio.
RESPONSIBLE INVESTMENT
1. INTRODUCTION OF THE SOCILLY RESPONSIBLE
INVESTMENT
Reasons for using responsible investing
4. Reputation - for some investors it might be a reputation risk if they are
investing in controversial companies that have a negative social or
environmental impact. Therefore they have a strong interest to exclude such
companies from their portfolio.
5. Linking Values to Value - especially charitable investors such as
foundations have a strong concern with Responsible Investments because
SRI allow them to achieve a “dual return”.
– Specific impact investment strategies such as microfinance or
specialized renewable energy projects can generate a financial return
as well as a direct, positive impact to the society.
6. Contribution to a sustainable development - incorporating ESG issues in
the investment decision allows to invest in line with personal values and
supporting companies and technologies that have a positive impact to the
society.
RESPONSIBLE INVESTMENT
1. INTRODUCTION OF THE SOCIALLY RESPONSIBLE
INVESTMENT
Impact investing aims for
both financial and social
return
• Impact investing is one of the
most dynamic new asset
classes to emerge in a
generation and it offers the
possibility to unite financial
returns with social impact, in a
market-driven and sustainable
manner.
Source: UBS WMR
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
• Responsible investing is traditionally divided into three core
categories: social screening, shareholder advocacy and
community investing.
• These three categories are not mutually exclusive – for
example, a socially responsible investor may practice social
screening while also investing in community development
projects.
• The majority of socially responsible investors, however, focus
on social screening and shareholder advocacy although
community investing is growing in prominence as the SRI
movement itself expands.
RESPONSIBLE INVESTMENT
INVESTMENT STRATEGY
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
• Social screening is a means by which investors either divest a
financial holding or invest in a particular company based on the
company’s social record.
• The basic premise underlying social screening is the idea that
companies that meet the social standards required by SRI
screens will be the most profitable and successful companies in
the long-term.
• Social screening can be divided into two types: negative
screening and positive screening.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
Negative screening occurs when an investor divests a specific
stock or industry group holding from a portfolio based on a
company’s practices diverging from some criteria of social
investment.
– Once an investor screens a stock out of a portfolio the
ownership relationship between the company and the
shareholder ends and often so does the investor’s ability or
desire to institute social change at the organization.
– It is for this reason that many shareholders refuse to sell shares
of a company with a poor social record and instead choose the
path of shareholder activism, as described below.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
Positive screening occurs when an investor seeks out a specific
stock or industry group and invests because of positive social
policies and actions of the company.
– Many SRI organizations have created sophisticated software
intended to search for just this type of investment opportunity.
– Companies that produce certain products – such as the “sin
stocks” have a hard time meeting the criteria required to be
included in a positive screen.
– Interestingly, even a company producing a more sociallyaccepted
product will also miss the cut if such a company has
poor corporate governance standards or employment practices.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
Forms of responsible investment
• Ethical investment
• Socially responsible investment (SRI)
• Sustainable investment
• Best in class (ESG) investment
• ESG integration
• Thematic investment
• Green investment
• Impact investing
• Shareholder engagement
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
Ethical investment
• Ethical investment usually refers to negative or exclusionary screening of
companies engaged in activities deemed unethical by the investor or that are
contrary to certain international declarations, conventions and voluntary
agreements.
• Typical exclusions are alcohol, tobacco, pornography, certain weapons,
nuclear power, and gross violations of human rights, or companies doing
business in or with a particular country.
• Exclusions can be based on religion, such as exclusion of companies
manufacturing contraceptives or hospitals practicing abortions, or of
companies engaged in activities contrary to sharia precepts; or on agreements
such as the Universal Declaration of Human Rights, ILO’s Declaration on
Fundamental Principles and Rights at Work, Rio Declaration on Environment
and Development, and good-practice guidelines from these and numerous
other sources.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
Socially responsible investment (SRI)
• Socially responsible investment (SRI) refers to approaches that apply social
criteria and environmental criteria in evaluating companies.
• Social criteria cover things such as occupational health and safety
performance, discriminatory hiring and promotion practices with respect to race
or gender, community welfare, labour disputes, and so forth.
• Environmental criteria cover areas such as quality of environmental
management, GHG emissions, energy and resource efficiency, sourcing of raw
materials, impacts on natural resources, land and ecosystems, waste and
recycling, and are often standardised to company sales.
– Generally, SRI investors score companies along their chosen criteria, either for their
investment universe as a whole or sector by sector; some apply differential sector-specific
weightings, and all establish a hurdle for qualification or disqualification within their
investment universe.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
Sustainable investment
• Sustainable investment refers to portfolio composition based on the selection
of assets that can be defined in some way as being sustainable or possible to
continue into the long-term future.
• If the criteria used are typical ESG issues, then sustainable investment is no
different from best in class or integration funds.
• But if the criteria are defined in terms such as ‘industries of the future’ or ‘net
positive business operations’ the investment strategy may be thought of as an
advanced mix of thematic and integration approaches.
• Sustainable investment can also be interpreted as an uncompromising strategy
that screens out assets considered to be inimical to long-term environmental
and social sustainability.
– Examples include the majority of fossil energy based industries including tar sands and coal,
too-big-to-fail financial institutions, and major investment banks. Examples of social goals
such a fund might look for in companies could be those directed at reducing inequalities,
providing job security and opportunities for advancement by employees.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
Green investment
Green investment refers to approaches that seek to invest capital in ‘green’
assets, whether these are funds, companies, infrastructure, projects and so on.
Typically this might include low carbon power generation and vehicles, smart
grids, energy efficiency, pollution control, recycling, waste management and
waste of energy, process innovation, and other technologies and processes that
contribute to solving particular environmental problems.
Green investment can thus be subsumed within thematic investing.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
Impact investing
• Impact investing refers to investments seeking a particular social or
environmental objective, such as to provide employment in a community,
promote access to low carbon energy, or support minority-owned businesses
or businesses that employ people recovering from drug addiction or with
disabilities.
• Making sure that the investment achieves its defined impact, and measuring
and tracking its progress lie at the heart of the investment proposition. Impact
investment should not be confused with philanthropy, its purpose still being to
meet the financial objectives of the investor.
• Impact investment usually takes the form of investing in non- listed companies
and is not determined by sector or theme. It is an increasingly popular model
for socially conscious high net worth individuals.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
• The terms “social”, “ethical”, “responsible”, “socially responsible”
and “sustainable” are all used in a multitude of overlapping and
competing ways. There are divided into three areas according
to EUROSIF:
1. Responsible Investment (RI) is an area developing
particularly among the institutional investors and remains most
connected to the mainstream financial community.
• Responsible investors take into consideration the long-term
influence of extra financial factors such as environmental, social
and governance (ESG) issues in their investment decision-
making.
• They integrate ESG factors into their stock portfolio analysis
and management, bringing together social and sustainability
indicators with traditional financial analysis.
RESPONSIBLE INVESTMENT
2. CATEGORIES OF RI
2. Social Responsible Investment (SRI) is an important area for the retail
financial sector and may incorporate ESG issues as well as criteria more
closely linked to a values-based approach.
– For example, it can involve the application of pre-determined social or
environmental values to investment selection. Investors choose to
exclude or select particular companies or sectors because of their
impact on the environment or stakeholders.
3. Sustainable Investment (SI) is a growing area where investors align their
investments with emerging environmental and social realities.
– This area brings together those in the financial sector committed to
the sustainability imperative along with those interested by the
investment opportunities that the ongoing shift in regulations and
market practices are creating.
RESPONSIBLE INVESTMENT
3. THE STATE OF EUROPEAN SRI
• The richness of variety of SRI shows the strength of the
industry, as investors continue to show creativity in developing
new products and in combining approaches.
• The fast evolving nature of the industry, combined with a high
degree of innovation, and the fragmentation of expectations on
the ‘buy-side’ represent, however, real challenges to the future
success of SRI, in particular when it comes to standardisation
and comparability.
• While the continued aggregate growth of all SRI strategies
across Europe is welcome, there is considerable difference in
growth at the country level, and some strategies remain
concentrated around a few markets.
RESPONSIBLE INVESTMENT
3. THE STATE OF EUROPEAN SRI
Overview of SRI strategies in Europe
Source: Eurosif, 2013
RESPONSIBLE INVESTMENT
3. THE STATE OF EUROPEAN SRI
EUROSIF
• is the leading European association for the promotion and
advancement of sustainable and responsible investment across
Europe, for the benefit of its members.
• Eurosif’s purpose is to:
– Promote best practice in Sustainable and Responsible Investment
(SRI) on behalf of its members
– Lobby for European regulation and legislation that supports the
development of SRI
– Support its members in developing their sustainable and responsible
investment business
– Promote the development of, and collaboration between SIFs across
Europe
– Provide research and analysis on the development and trends within
the SRI market across Europe
– Raise awareness of and increase demand for SRI throughout the
European capital markets
RESPONSIBLE INVESTMENT
3. THE STATE OF EUROPEAN SRI
• Sustainability themed investments cover a wide range of
themes from climate change and energy efficiency to forests
and water. Investors’ motivations may vary greatly, but it is
typical to support particular industries transitioning to more
sustainable consumption and production.
• By nature, an despite its real potential to contribute to a more
Sustainable economy, it has traditionally been one of the
smaller of the SRI strategies across Europe.
RESPONSIBLE INVESTMENT
3. THE STATE OF EUROPEAN SRI
Growth of sustainability themed investmens in Europe
Source: Eurosif, 2013
RESPONSIBLE INVESTMENT
3. THE STATE OF EUROPEAN SRI
ESG ingegration in EU
• ESG integration is defined as the explicit inclusion by asset
managers of ESG risks and opportunities into traditional
financial analysis and investment decisions based on a
systematic process and appropriate research sources.
• Eurosif has, for the first time, divided the activities performed by
asset managers into three categories while attempting to
allocate estimated assets to each:
– Category 1 (“non systematic ESG Integration”): ESG research and
analyses made available to mainstream analysts and fund managers;
– Category 2: Systematic consideration/inclusion of ESG
research/analyses in financial ratings/valuations by analysts and fund
managers;
– Category 3: Mandatory investment constraints based on financial
ratings/valuations derived from ESG research/ analyses (exclusions,
under-weighting, etc.).
RESPONSIBLE INVESTMENT
SUMMARY OF THE LECTURE
• The European Impact investing market has grown significantly
between 2011 – the first time Eurosif started to measure the
market – and 2013 to reach about €20 billion. This represents
an annual growth of 52.3%.
• The mainstreaming of SRI as it is adopted by institutional
investors (not just by charities and other values based
organisations or in dedicated SRI retail funds) is a major step in
the maturing of SRI which offers the prospect of putting
significant pressure on companies to adopt CSR.
Recomended study:
– European SRI Study 2014, EUROSIF
– Blowfield and Murray, 2014. Corporate Responsibility, Oxford
University Press, chapter 10