Socially responsive investing

Foundations & Endowments

The terminology around investments made with social as well as financial goals in mind is fluid. In this paper, we address some of the specific forms and terms. We intentionally refer to SRI investments as socially responsive to avoid the implication that any one set of social guidelines is more or less ‘responsible’ than another. As we discuss at length, there’s a high degree of judgment and subjectivity involved in setting out an investment approach that’s informed by social as well as financial principles—and many points of view can and should be aired as your organization seeks out the best path to achieve your overall mission.

“Investing can mean many different things. Entrepreneurialism can mean many different things. Philanthropy can mean different things. Never settle for one simple definition of a word or an approach, because trying different things means we can find more bottom lines, not just one…and in this way we can change the world.”

 

—Sterling Speirn, Former President and CEO of the W.K. Kellogg Foundation.1

Introduction

Socially Responsive Investing (SRI) has grown significantly since the turn of the century as investors and fiduciaries have expanded their definition of portfolio returns to include the externalities that can arise from their investment decisions. In response to this growth, the investment industry has developed approaches to support the implementation of social investment programs. As SRI has continuously progressed, the traditional terminology has evolved as well to include labels such as Responsible Investing and Sustainable Investing. Nonetheless, despite the growth and high level of interest in SRI, there are a few fundamental questions that remain.

  • Is an investment portfolio the appropriate vehicle to express the moral or social values of an organization?
  • Or should investment portfolios be solely focused on achieving the highest economic value through traditional investing—thus maximizing the financial resources available to help the organization meet its mission?
  • Do socially responsive screens even matter when assessing portfolio performance?

The debate of moral value versus economic value has turned into a more complex issue as the concepts of ‘double bottom line’ accounting have become widespread, and as the calculation of externalities arising from capital allocation choices has become more refined. Supporters of SRI believe they can affect environmental, social, and governance changes at a company through various investment strategies—seeking out (positive screening) or avoiding (negative screening) a company’s stock based on certain measures of social impact.

Supporters of economic value, on the other hand, believe that portfolios should be structured to generate the highest expected financial return, and that by utilizing SRI investment strategies, portfolio returns are diminished. There’s evidence and passionate advocates in both camps. And boards and investment committees are increasingly grappling with questions of mission and intertwined economic issues arising from portfolio investment choices.

The growth of SRIs

The belief that investments can generate a desirable social, environmental, or governance impact while also producing a financial return has grown in importance as developed societies and sophisticated investors try to address the many global challenges now threatening a sustainable long-term global economy. It’s an alignment of values with investment goals as a force for positive change.

Since 1995, when the US SIF Foundation first began tracking SRI investments, there’s been more than a 25-fold increase in SRI assets. From the start of 2018 to the start of 2020, the total amount of U.S. assets being managed using sustainable investing strategies grew from $12.0 trillion to $17.1 trillion (a 42% increase).2

Global investment numbers mirror the trends experienced in the United States. The Global Impact Investing Network (GIIN) has reported very strong growth in impact investing in many areas of the world. Between 2016 surveys and 2020, aggregate impact AUM grew from $52 trillion to $98 trillion—a 17% compound annual growth rate.3

Source: US SIF Foundation Biennial Reports on US Sustainable, Responsible and Impact Investing Trends and the Global Sustainable Investment Alliance, Bien­nial Global investment Reviews

This data strongly supports the premise that SRI investments are growing at an extremely rapid rate, and this trend is likely to continue throughout the decade and beyond.

Source: CROSSMARK Global Investments, The Evolutions of Responsible Investing

The history of SRI

Socially motivated investments have a deep history with strong religious ties dating back to the Hebrew bible (first recorded ca. 1400 BC). Several passages in the scripture forbid accepting interest on any loan given to someone in need. Centuries later, around 600 AD, the Quran continued this same religious tradition of not permitting financial gain from loans—warning of divine punishment to those who did.

Socially responsive investing in England and the U.S. finds its roots with the Quaker and Methodist teachings in the 18th century. One of the founders of Methodism, John Wesley, famously gave a sermon entitled, “The Use of Money” in 1760. In this sermon, he preached of the importance of using money for good, instructing others to “gain all you can,” “save all you can,” and “give all you can,” with a mindfulness to the physical and mental health of yourself and your neighbors.4

This idea of gaining all that you can without harming your neighbor plays an integral role in the modern era of socially responsive investing. We saw it play out in the 1960’s when thousands of students across the country demanded university divestment from Dow Chemical for its involvement in weapons production (napalm) used in the Vietnam War. In 1971, Luther Tyson, Jack Corbett and Tony Brown recognized the need for socially conscience investment tools and created the first socially responsive mutual fund; the Pax World Fund. SRI continued to grow in prominence as tensions grew during South Africa’s apartheid—leading to the development of the Sullivan Principles in 1977. Created by civil rights activist and General Motors’ board member Reverend Leon Sullivan, this list of principles acted as a guide for investors seeking to divest in the region until equal rights were granted. In both instances, the call for divestment impacted the social climate at the time.5

Throughout the 1980s and 1990s, SRI wasn’t seen as a primary investment strategy, but it slowly gained traction leading to the development of multiple indices. The first SRI index was the MSCI KLD 400 Social Index (formerly known as the Domini 400 Social Index), which was established in 1990 to address U.S. investments. The Jantzi Social Index was established in 2000 to address investments in Canada. And in 2001, two global indices (Dow Jones Sustainability and FTSE4Good) were developed to track global SRI investments. Six years later, the UN created the Principles for Responsible Investing; outlining policies to assist in the investment decision making process. Since that time, social investing has grown exponentially—enabling investors to now select from a myriad of issues that are important to them, which may be chosen in several different ways.

Types of social investing strategies

It’s important to realize that all individuals make decisions based on the culmination of their unique experiences and preferences. During the 1970s, when socially responsive investing started to become more common, it was based on negative/exclusionary screening. This type of screening removes investments that may be engaged in undesirable products, services, or even actions. During South African apartheid, the socially responsive investment strategy was to encourage divestment from any American company that was operating in South Africa until the country made civil rights strides. Other common targets of negative screens include firearms, gambling, tobacco, and pornography.

Over time, doubts have arisen regarding the efficacy of negative screening strategies and whether they have a measurable impact on the companies targeted. In the case of South Africa and the anti-apartheid campaign, the economic toll of sanctions fell harshly upon the least advantaged in the society—the very individuals the sanctions were intended to help. Long term, the sanctions may have played a role in helping to end apartheid, but they exacted a painful near-term cost in the process.

Alternatively, there are positive/affirmative/best-in-class screens—a much more proactive approach. Rather than excluding companies based on their business practices, investors support companies that uphold socially responsible philosophies and practices. These investments usually include a more in-depth analysis of the business’s position and impact across a variety of different issues including (but not limited to) diversity, safety, environmental impact, and hiring practices. Often, the reasoning behind positive screening is based on the investor wanting assurance that the company is engaging in actions that contribute to sustainability. This is different from negative screening, which sometimes seeks a simpler response, such as the end to a war or better working conditions.

A common approach to socially responsive investing is to include environmental, social and governance (ESG) integration into your overall analysis of an investment. There’s a practical belief that a company’s approach to these factors will be a strong determinant in the overall longevity of the company. Analysis along these lines can come with a focus on one or all three factors and there are many smaller issues in each category that may also be selected as a particular focus. According to a survey conducted by the CFA Institute, ESG Integration is the most widely used SRI strategy. Of the six available socially responsive investing strategies, 57% of the survey respondents incorporate ESG integration into their entire investment analysis and decision-making process.6

Source: CFA Institute

ESG analysis of investments can involve extremely sophisticated processes to help investors better understanding a company’s stance on complex issues, ranked in importance based on their mission.

Another social investing strategy is Active Ownership. This strategy is employed by exercising rights as a shareholder to create dialogue with a company’s senior management team regarding ESG issues. Active owners don’t believe shareholders should sell securities when ESG issues arise. Their philosophy is to work with management and influence outcomes and practices regarding ESG issues.

The following actions are common levers of active ownership:

  • Vote in shareholder general meetings
  • Write a letter to the company
  • Meet with company representatives
  • Raise a question at a general meeting of the shareholders
  • File a shareholder resolution
  • Attempt to gain a seat on the board
  • Call for an extraordinary/special meeting of the shareholders
  • File a complaint with the regulator/authority
  • Issue a statement to the news media

Sustainability Themed Investing is associated with the investment of assets based on trends such as social, industrial, and demographics. This type of investing specifically focuses its efforts on thematic issues such as clean tech, sustainable forestry, and education.

Impact Investing equally balances the social and environmental impact of an investment and the financial return—which can range from below market to market rate. This type of SRI strategy allows investors to direct capital to specific companies, organizations, and funds that address challenging issues in sectors such as sustainable agriculture, renewable energy, conservation, micro-finance, and affordable and accessible basic services including housing, healthcare, and education.

The following chart depicts the most common types of socially responsive investing strategies employed when dealing with ESG issues, as well as the usage by percent based on survey respondents.

Is there a balance between social obligation and maximizing portfolio returns?

The overarching goal of SRI investments is to generate returns while also affecting social change. The key toward a successful investment is considering the relationship between these two elements. The innovation arises in the challenge to the traditional notion that social and environmental issues be handled via philanthropy, while market investments solely focus on achieving maximum returns. Supporters of social change through investments believe it’s a moral obligation of the investor to hold companies accountable for their actions and the manner in which they conduct business. Increasingly, both individual and institutional investors feel it’s a fiduciary responsibility to ensure the companies they invest in are in line with their core beliefs (or organizational mission statement). At the same time, there’s a greater comfort level when investing in companies that adhere to ESG screens, driven in part by a belief that ESG screened portfolios don’t result in concessionary levels of return relative to non-screened portfolios. According to a survey of investment professionals conducted by the CFA Institute, 63% of the respondents take ESG issues into consideration during investment analysis / decisions to help manage investment risks. Not surprisingly, 44% of the respondents noted that their clients/investors are demanding ESG screens.7

Despite these results, data regarding the impact on returns and volatility arising from ESG screens remains incomplete. The traditional argument still persists that ESG portfolios (which reduce the investable universe of stocks using screens) may produce lower returns and higher volatility over time compared to non-screened portfolios. And the macroeconomic environment certainly plays an important role in the impact of screens over time—especially during times of depressed growth and heightened levels of uncertainty. In these situations, investors tend to pursue sectors that have higher yields and greater liquidity (e.g., oil and gas), which are typically excluded from ESG portfolios.

Others hold forth that portfolios constructed utilizing ESG screens will tend to generate lower expected returns because they’re investing in ‘non-sinful’ stocks which have a lower cost of capital to pursue projects and a lower break-even return on investments.

In reviewing a number of socially responsive strategies, it’s possible to consider that the performance of SRI funds relative to a non-screened benchmark could be linked primarily to sector tilts and time-dependency. For example, the MSCI KLD 400 Social Index tends to have a heavier weighting to technology companies, which are more likely to pass ESG metrics versus companies in the industrial and utility sectors because of concerns regarding pollution or defense contracting. As a result, SRI funds that track the MSCI KLD 400 Social Index may have an overweight in technology—and therefore a likelihood of performing better during time periods when growth-dominated markets are persistent.

The question facing mission-driven investors is simple. Can you create the societal change you desire more efficiently through ways in which you invest your organization’s assets or by using the returns earned by investing your assets with the sole goal of return optimization?

With rising client demand and the perception that sustainable companies are acceptable investments, the investment industry’s taken notice and responded by creating products to meet this mandate. Currently, U.S. investors have committed more than $160 billion in assets to more than 600 ESG funds and ETFs.

The impact of millennials

Several trends will likely have an impact on overall SRI activity in the coming years. On a global scale, the millennial generation is entering their peak economic and investment age. It’s a generation that’s thought to be much more willing to pay extra and invest more when an issue matters to them. In a recent survey, 63% of millennials indicated that the primary purpose of businesses should be ‘improving society’ rather than ‘generating profit.’8 And the generation that follows (Generation Z) appears to have an equally strong commitment toward socially responsive investing. This represents a wholesale shift in priorities which may have significant economic consequences.

In response to this potential cultural shift toward value-based investing, the United Nations’ Principles for Responsible Investment was formed in 2006 by a group of institutional investors to further the scope of socially responsive investments. As a result, The Six Principles for Responsible Investments was created to encourage support for ESG investing and provide possible actions regarding ESG issues. While the Principles are voluntary and aspirational, in the ensuing years over 3,000 investors have committed to the Principles. The total amount of capital committed through these investors is $103 trillion, coming from 50 different countries. This represents another indication that the trend of increased social investment will continue in the coming years.9

The World Economic Forum reports that businesses which incorporate positive social and environmental policies have huge potential—especially in developing markets—in which investors can achieve a desired social and environmental impact while still realizing strong financial returns. This is contrary to the widespread belief that socially responsive investing typically has a negative consequence on financial performance. Most investors list the greatest challenge of SRI investing as changing the financial perception surrounding the practice.

Other studies offer a different perspective, with one 2016 UK study suggesting a 30 to 50 basis points annual reduction in performance as a result of a negative-screened portfolio.10 Different analyses offer different outcomes, particularly as some studies focus on pro-actively positive investments (i.e., contributing to infrastructure investments in developing countries to create sustainable economic growth) versus portfolio screens on secondary market investments designed to include or exclude certain factors.

The influence of millennials will continue to grow as they begin to serve as board/investment committee members and trustees for not-for-profit organizations. In turn, discussions around the complex relationship between the duties of the fiduciary and the implications of investment decisions should become more nuanced. Additional complexities may arise if, as Truist expects, future investment return levels are modest; institutions will then face challenges in earning investment returns that both sustain their cash flow needs and provide for real growth in asset value after the effects of inflation. This issue raises the stakes for any discussion that influences investment returns over long periods of time.

The organizational impact of SRI

Investment committee and board members must consider how investment decisions ultimately align with the mission statement of the organization. Do educational institutions have a responsibility to include environmental guidelines in their investment policies? Activists of today argue that they do—students of the future, who may bear the costs of reduced endowment returns, may have a different view. Issues of inter-generational equity arise, as the concerns of today may drive decisions in a direction that creates disadvantages for future constituencies, and the complex cost/benefit analysis of a social investment may suffer from substantial mismatch in the timing of the cost and the impact of the benefit.

On a national scale, individuals are growing increasingly aware of the connection between money and making social progress, and a greater number of individuals are willing to spend more for the same product if they know the company is affecting positive change. In the same vein, as more data becomes available to support the fact that SRI can lead to tangible and positive social outcomes, institutions and not-for-profit organizations that fail to incorporate an SRI strategy may actually face a reduction in their donor base. Donors may be likely to increasingly incorporate an analysis of an institution’s SRI strategy in their decision-making process. Crucial to such an outcome is an accounting mindset that looks beyond pure economic profit as captured in public accounting standards, and instead incorporates a “double bottom line” standard that includes the impact of externalities that are not reflected in traditional accounting measures. The development and acceptance of a widespread, objective standard for measuring such externalities has yet to be determined.

As a result, investment committee members may struggle in efforts to balance the mission of the organization they are serving with their fiduciary responsibilities through the lens of SRI investments.

Questions to ask prior to investment

Educational institutions lacking consistency with SRI mandates

University of California: There’s perhaps no better example for the model of institutional-level socially responsive investing than what is found with the University of California (UC). Across ten campuses, five medical centers, three national laboratories, as wells as agricultural and natural resources centers, the entire university system is committed to launching sustainable initiatives, which guides their investment decision-making process. They approved a Framework for Sustainable Investing in September 2015. The UC system actively considers their role to be that of “sustainable investors,” which accounts for long-term investment markets, as opposed to that which may be more profitable in the short-term, although the returns that are being actualized by their sustainable investments remain very competitive.

Their investments are guided by the principles they have identified as crucial to their mission. The biggest one currently is combatting climate change. Towards this end, they have allocated over $1 billion in their UC Ventures program that promotes entrepreneurship and innovation in achieving effective, climate-change solutions. They participate as a signatory of the UN-supported Principles for Responsible Investment. In almost every dimension, their guiding principles are incorporated into the investment decision-making process. The institution has received widespread accolades for becoming a global leader in socially responsive investing and they have also received widespread support from their educators, researchers, and students.

Stanford: The institution has had a Statement on Investment Responsibility in place since 1971. This statement outlines conditions of divestment from certain companies when conditions cause social injury. While extremely relevant when discussing human rights violations, it doesn’t address other, more contemporary concerns, including climate change. Since this is such a pressing social concern, students on the campus have been protesting in support of divestment activities similar to what the UC system implemented.

While the Board of Trustees has been unwilling to completely divest from companies in the fossil fuel industry—noting that an endowment must invest broadly in order to meet its financial needs so it may adequately fund its educational offerings—the university has reduced active fossil fuel holdings in Stanford’s Merged Pool of investments by more than 90% and has committed to accelerating its transition to net-zero greenhouse gas emissions.11

Harvard: The endowment for Harvard is one of the largest academic endowments in the world and their management company cites a strong commitment to sustainable investing. They reference a three-pronged approach to guide their sustainable investment work and priorities, consisting of ESG Integration, Listed Equity Active Ownership in order to exercise the client’s voting rights, and Collaboration with global investors and other endowments. They are also a signatory on the Carbon Disclosure Project, which works with governments, companies, institutions and other investors to advance environmental and performance disclosures of publicly listed companies.

Despite these activities, the Harvard endowment also emphasizes that it believes that the best way in which the university can serve society is through its educational offerings, which they believe will benefit from not divesting in the fossil fuel industry. The student and public demand for divestment has been especially vocal for Harvard. There has been a movement called Divest Harvard, which has been calling for divestment from fossil fuels and reinvestment into more socially directed funds. They have been active in their mission for over five years and due to the pressure from this coalition, the institution stopped investing in fossil fuel interests in April 2017. At the same time, the Harvard Management Company (HMC) has restructured its entire investment office and is pursuing a wholly new model of investing due to a long history of sub-par endowment returns. Given the demands of the student body and changes at HMC, we anticipate the tension between the need to improve investment returns and the demands for divestment to likely increase in the coming years.

Each of these universities, willingly or due to public demand, has approached sustainable investing in its own way given their current student body, faculty and staff, and donor base. Despite efforts to satisfy their current constituents, it is uncertain as to how these decisions to implement SRI will impact the portfolio and affect their future obligations. Nonetheless, these universities rely heavily on their respective endowments to perform and generate the highest return available.

Conclusion

While the discussion of SRI and ESG investing has exploded in recent years, actual adoption lags due to a number of very real challenges. The interpretation of intangible sentiments surrounding mission into actionable portfolio guidelines is a process that can lead to fracture and division if world views differ among board and investment committee members. Short-term political or cultural fads can have long-term portfolio implications, the effects of which can long outlast the ‘cause du jour.’

At the same time, mission-centric organizations hunger for the ability to live out their missions in real time and to “walk the talk” in terms of the ways in which they manage their resources. As with so many other topics, there is no one-size-fits-all solution, and purists from either side of the conversation may find that a middle ground exists in which social guidelines can be a part of the investment discussion alongside return expectations and the duty of fiduciaries to preserve the value of perpetual pools of capital for future generations.

In this complex and evolving dialogue between mission and fiduciary duty, between economic realities and the pressing social concerns that garner our attention, investment committees and boards should seek information, analysis and perspective on the array of choices available to them. In this area (as in so much of life), where your treasure is, there will your heart be also (Mt 6:21 [KJV]). We stand ready to assist in the conversations that can help define the outlines of an evolving financial ethos for your organization.


About Truist Foundations and Endowments Specialty Practice

Truist has more than a century of experience working with not-for-profit organizations. Fiduciary stewardship is the heart of our culture. We’re not just a provider, but an invested partner—sharing responsibility for prudent management of not-for-profit assets. Our client commitment, not-for-profit experience, and fiduciary culture are significant advantages for our clients and set us apart. The Foundations and Endowments Specialty Practice works exclusively with not-for- profit organizations. Our institutional teams include professionals with extensive not-for-profit expertise. These professionals are actively engaged in the not-for profit community and are able to share best practices that are meaningful to their clients. Team members offer guidance and advice tailored to the various subsets of the not-for-profit community, including trade associations and membership organizations. Our Practice delivers comprehensive investment advisory, administration, planned giving, custody, trust and fiduciary services to trade associations, educational institutions, foundations, endowments and other not-for profit clients across the country.

Looking for help in creating and implementing a socially responsive investment strategy? Contact your Truist relationship manager or investment advisor or call us at 866-223-1499.

1 W.K. Kellogg Foundation President and CEO Sterling Speirn at TEDxUofM talk

2“Report on Sustainable Investing 2020,” US SIF Foundation, 2020

3 “Annual Impact Investor Survey 2020,” Global Impact Investing Network, June 2020

4“The Use of Money,” J. Wesley, 1872

5 “History of socially responsible investing in the U.S.,” Thomson Reuters, August 2013

6 “Environmental, Social, and Governance Issues in Investing,” CFA Institute 2015

7 Morningstar Direct, July 31, 2020

8“Millennials: The Purpose Generation,” Korn Ferry, 2020

9 “PRI Growth 2006 to 2020,” UN Principles for Responsible Investing, 2021

10 “The Impact of Ethical Investing on Returns, Volatility, and Income,” Newton Investment Management, 2016

11 Stanford News, June 12th 2020