Looking Ahead:
Socially Responsible Investing
Where The Money Is
ENVESTNET PRACTICE MANAGEMENT SERIES
What is sustainability and will it last?
While "socially responsible" investing has been around for decades, the concept of "sustainability" has only emerged in the public conversation in the past couple of years. The word has been applied to many situations, but the basic concept is that - like the ecology of the earth - resources are managed so that they do not outstrip consumption. "Green buildings" that minimize energy use are just one example. Sustainability looks into the future, and, for businesses, it is clearly aligned with longtem strategic development. Yes, the ideas of sustainability can be expected to become integrated into even more parts of our economy and daily lives. It is here to stay.
Let's take a peek at the Smiths, a couple who may represent some of your favorite clients. It's Saturday morning, and the husband is the first to head out to do some errands. He takes his hybrid car for a fill up, one of his rare trips to the gas station. On the way home, he drops off a couple weeks' worth of reusable paper, plastic, aluminum, and cans at the city's recycling center.
Soon the wife returns from the grocery store and begins unpacking her reusable bags, the ones that she carries with her and now takes to the store. She unpacks twisty (compact fluorescent) light bulbs, organic milk and a few soy-based cleaning products.
Then the couple sits down at the kitchen table and talks about installing insulation that will make their home more energy efficient and reduce energy costs.
With the exception of the recycling process and insulation, these options for saving energy and resources were not available five years ago. Yet many Americans have changed their habits, easily accepting the many small steps they can take to reduce their footprint on the environment.
Sitting at their kitchen table, the Smiths might not talk how many changes they've made in their daily life. They are just living their values. They might also talk about how those values fit into their financial future. Saving for retirement is a challenge. Can their savings do more than just support their children's educations and their retirement? Is it possible to both grow their financial assets and enjoy the satisfaction that their investments are helping the growth of businesses that are doing a good job of caring for their employees and the environment?
What does that have to do with your business as a financial advisor?
It may have everything to do with the way your business takes shape in the years to come. It may be time to recognize that our clients are going green, whether we embrace the trend or whether we resist.
In this article, we make a case for investing in businesses that align themselves with environmental sensitivity and, more broadly, social responsibility. Many of these are mature companies that are shifting the way they do business to reflect social responsibility. Others are new, exciting startups that seek and offer new solutions to problems posed by global warming and burgeoning demand from high growth economies like China and India.
Whether it is adaption by existing companies or innovation from new companies, it is clear that a fair share of creativity and ingenuity will tackle the environmental and social issues that are of increasing concern to many Americans. Where will our creativity be channeled over the next decade? Socially responsible and sustainable investments have already received a fair share of capital, and there is good reason to expect even more investment from venture capital and private equity, equity markets and governmental sources.
Looking Beyond the Financial Crisis
Experts say that it will be six months to two years before we begin to emerge from today's meltdown. Do you find yourself looking for the bright spots in today's economic turbulence, and thinking about what kinds of companies will be the market leaders as the economy improves?
As a financial advisor, you expect the constant shifts of the financial market place and you know that the markets are always looking ahead. Those who can look furthest ahead may be in a position to benefit. Already a rapid-growth financial segment, many factors are coming together to make a case that SRI will become an even bigger and more powerful component of our economy.
Investing Landscape
Let's take a look at the dynamics that make a strong case for Socially Responsible Investing. Consider what is happening right now.
#1 American businesses is taking the lead
American manufacturing and service businesses excel at responding to competition. And many companies have already recognized that socially responsible and sustainable business practices support their competitive edge. Sustainable practices are consistent with long-term, forward strategic planning.
Why has General Electric made a commitment to the consumer market for compact fluorescent light bulbs? After all, they are much more expensive and have been more difficult to dispose of. But they last longer, use less energy and represent a commitment to the future. While GE may have recognized the positive environmental impact of those twisty bulbs, the decision to put them on the market represents a long-term strategic plan.
Business-to-business supplier relationships have already changed dramatically. If, for example, an auto parts supplier wants the business of a major auto company, the facility must meet specifications that incorporate responsible practices and systems, both environmentally and managerially. Clear objectives are set by the International Standards Organization, which states, "ISO enables a consensus to be reached on solutions that meet both the requirements of business and the broader needs of society."1
A solid business case can be made for investment in reducing energy use. Companies that build or retrofit facilities can meet the "green" certification by Leadership in Energy and Environmental Design (LEED). Although initial costs might be higher, long-term, ongoing energy costs are reduced. "Green" buildings are also more attractive to buyers or tenants; a recent study found that they "outperform their peer non-green assets in key areas such as occupancy, sale price and rental rates, sometimes by wide margins."2
Recognition of the value of a sustainable perspective goes beyond the factory floor. According to Christopher Walsh, Spectra Green Fund portfolio manager, "... we believe that companies are adopting environmentally sound business practices because they think that such practices will have a positive impact on their bottom line either through cost savings or market expansion. Recent studies have suggested a high, positive correlation between companies that practice eco-efficiency and share price outperformance."3
# 2 Socially responsible investing is evolving
The standard view is that financial results of SRI investments will lag returns produced by a more traditional investment strategy. However, studies show little or no difference between SRI results and those of the broader spectrum of companies. "In fact, there is evidence that SRI can match or exceed broader indices."4
The evolution of SRI is not limited to changing attitudes about returns. For one, the analytical screening process is evolving. Early screens would rule out entire categories of investments, such as, for example, the steel industry because it generated carbon dioxide. Today's managers take a more nuanced look at companies on an individual basis, recognizing that, while a company may in fact generate CO2, they may also be implementing "green" facilities that reduce the level of CO2 that they emit.
More and more, companies recognize that good governance equates with good business. Not all of these sustainable business practices are easy to quantify, which, like accounting for good will or brand value, poses a challenge for analysts who seek to value the business as a whole. Foundations and religious organizations, among others, focus their investments on companies that meet their SRI standards. "Not only that, studies show that there is a strong correlation between companies that meet high standards of governance and their investment returns."5
It also creates an opportunity for top executives and communications experts who will need to find ways to articulate a measurement of the value-added measures made by their companies. One new form of communication and documentation is a corporate responsibility report. Similar to the financial annual report, many of these are on line at www.thecro.com. There is no cost, but you will need to sign in to view them.
# 3 Startups and spinoffs are getting capital to innovate
For analysts and portfolio managers, perhaps the most exciting part of screening for SRI companies is to discover those that are truly innovative and creative. Do electric cars interest you? A quick Google search will identify at least eight vehicles that are being developed right now. Not only are they using new technologies and processes, they have the potential to both solve problems and to grow like a Microsoft or Google.
"Gassing Up with Garbage" - a recent New York Times article6 - focused on companies that are developing biofuels. Responding to concerns of global warming and spurred by the high price of gasoline, businesses (many backed by Silicon Valley executives) are testing a wide range of fuel sources:
. Solazyme, in South San Francisco, is developing fuel made from algae.
. A Nevada company, Fulcrum BioEnergy, will use 90,000 tons of garbage a year to produce ethanol, beginning in 2010.
. DuPont - a global chemical company - will invest $140 million to work with a small company and commercialize a process that uses nonedible parts from corn and sugar cane to make ethanol.
These enterprises are not without risk, but they are gaining investment traction. Venture capital invested $612 million in the first half of 2008, following $375 million for the full year of 2007.
# 4 Government will be more involved, linking SRI with job creation
Until recently, local and state governments have played the biggest role in fostering environmentally sensitive initiatives, with less involvement at the federal level. The state of California has taken the lead, adopting efficient energy criteria thirty years ago. A long-term study based on the California experience reported that 1.5 million new jobs were created over that time period, with the loss of fewer than 25,000 jobs. The study was based on consumers' reduced demand for electricity and the subsequent increase in spending on other parts of the economy, thus creating employment.
Now it appears that the connection of economic growth, job creation and going green will be backed at the national level as well. Both presidential candidates acknowledged the threat of global warming. Government at the national level has been seen as a catalyst to private efforts that would help to create new jobs within the US within the U.S.
Connecting with Clients
Most advisors do not bring up the topic of SRI with their clients. And if a client introduces the idea, some advisors recommend a traditional investment strategy with the client planning donations to entities that support their personal views.
But, if you are beginning to think there is more to SRI than just feeling good, you can begin by asking clients if they have ever considered incorporating it into their portfolio. Advisors report that clients appreciate the question, even if they are not ready to move in that direction.
For those whose clients are skeptical, these are some of the most common responses.
Opportunity Ahead
Where there is change, there is opportunity. Because of the financial turmoil, U.S. and global businesses have been pushed into reexamining their strategies and capital investments. At the same time the opportunity for aligning growth with socially responsible initiatives - environmental, social and governance - is expanding.
Think about the Smiths who were described earlier. They are adapting their daily lives to new realities and social responsibilities. Perhaps they are ready to invest their financial futures in companies that build their growth on sustainable strategies.
And instead of asking whether sustainable investing is a smart investment option for your clients, maybe it's time to ask, "Isn't socially responsible investing smart investing for my clients today?"
1 ISO web site page 1
2 http://www.usgbc.org/News/USGBCInTheNewsDetails.aspx?ID=3637
3 Spectra Q & A, Christopher Walsh Spectra Green Fund Portfolio Managers Speak with Zachary Karabell, Chief Economist page 2
4 World Economics Forum, PricewaterhouseCoopers
5 "Green Is Gold", Goldman Sachs Study
6"Gassing Up with Garbage," by Matthew L. Wald, New York Times, July 24, 2008.
This presentation is provided for informational and educational purposes only. It is not intended as and should not be used to provide investment advice and does not address or account for individual investor circumstances. Investment decisions should always be made based on the client's specific financial needs and objectives, goals, time horizon and risk tolerance. The statements contained herein are based upon the opinions of Envestnet and third party sources. Information obtained from third party sources are believed to be reliable but not guaranteed. All opinions and views constitute our judgments as of the date of writing and are subject to change at any time without notice. Past performance is no guarantee of future results.
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