Socially Responsible Investing

by Mr. Cheap

There’s probably a decent chance this post will make you angry.  Feel free to skip it if you want to stay in a good mood.  If you decide to read it anyway and are looking for ways to vent your anger, insulting the author (Mr. Cheap) or announcing that you’ve unsubscribed to our feed are both popular options :-).

Some time ago Larry MacDonald wrote an interesting article on socially responsible investing for The Globe and Mail. For those unfamiliar with the term, SRI is a mutual fund which only buys stock of companies that meet the ethical criteria of the fund. As an example, almost no SRI would ever buy Rothmans or British American Tobacco stock, since they wouldn’t want to profit from tobacco sales.

What was most interesting about the article, is that Mr. MacDonald points out that SRI funds have performed as well as general funds. The explanation for this is that ethical companies are less likely to be involved in a lawsuit or to have a business affecting PR nightmare if their unethical practices come to light.

I owned Rothmans stock and have actually suffered from ownership on two occasions. I was briefly corresponding with a reasonably famous investor and after I admitted that I owned Rothmans stock he stopped corresponding with me. Another time a reader (who was clearly crushing on me) and I exchanged a few e-mails, and after it came up that I unabashedly own tobacco stock she told me off and stopped writing as well.

I always wonder about social beliefs that the main argument for them is people who say “believe what I believe or I won’t be your friend”. I have friends who are pro-choice and pro-life, chums who are pro and anti gun control, religious (from numerous faiths) and atheist pals, I have socialist buddies and capitalist buddies. I have my own firm opinion on each of these issues, but it has never prevented me from enjoying the company of someone who has another point of view.

SRI are fine for what they are, but I somewhat disagree with the underlying philosophy.  To use my Rothmans stock as an example, not a single additional cigarette was sold because I’m the owner of part of the company.  If I had sold my Rothmans stock to Mike, the company would continue to function in EXACTLY the same way it had before the sale.  The only difference is that Mike would be collecting the quarterly dividend instead of me (and he would be able to vote on shareholder issues instead of me).  I was one owner of a well run, very profitable Canadian company that makes money selling legal products to people who want to enjoy them. I would have been delighted to continue owning it if the sale hadn’t been forced, and I’ve considered buying Altria on a number of occasions.

Say now, someone objects to ownership (fair enough).  They sell their Rothmans stock, because even though they aren’t materially affecting the operation of the tobacco company, they don’t want to profit from the supposed suffering it causes.  They can’t own most mutual funds (which might buy Rothmans or another unethical company at any moment), or index funds (which will almost certainly own unethical stocks).

If we object to being a shareholder in these companies, which doesn’t affect their day-to-day operation, we certainly can’t be CUSTOMERS:  which DOES affect their day-to-day operation.  If I buy Rothmans smokes, the company has more money to spend on advertising, improving their operations and other business activities (such as paying those nasty dividends to shareholders which I’m opposed to).  I also can’t sell Rothmans smokes, or patronize companies that do (for the same reasons I can’t buy their product).

At this point I’ve isolated myself from pretty big part of the economy (convenience stores, most grocery stores, etc).  Certainly if I can get enough fellow consumers to join me, we’ll be pressuring stores not to do business with Rothmans, and hurt their business. Alternatively I could lobby the government to make smoking illegal and criminalize people who choose to smoke and the companies that try to sell to them. If I’m not doing either of these things (and just not buying sin stocks myself), I’m not really accomplishing anything except letting others collect the profits from these companies (and if enough people refuse to buy them, it WILL drive profits up for the remaining buyers).

To focus on a specific example, tobacco companies, I can understand why people are against smoking: it kills people. If someone asked my opinion whether they should start (or continue) smoking, my advice in EVERY case would be “don’t smoke”. HOWEVER (and this is my personal politics creeping in), if an adult CHOOSES to smoke, with full awareness of the consequences, who am I to try to force them to stop? Should I try to stop obese people from eating junk food? Should I try to stop skiers from skiing (and other sports with a danger component)? Should I try to force people to stop drinking (and stop myself)? Putting aside the “addictions” argument, people engaging in “harmful” activities have weighed the possible consequences and made decisions for themselves. Without knowing everything about them, how could I possibly make a better decision for them then they could for themselves?

Some people bring up the health care costs, and how people engaging in self-harm drive up costs in taxes or health-insurance premiums. Again, look at the examples in the previous paragraph. Are we really ready to ban everything that’s harmful?

I have no problem investing in a company that I wouldn’t shop at (I *HATE* BMO as a customer, and it’s one of my main holdings). Given this, if a company does a good job delivering a legal product, why should I avoid investing in it? Not that it’s at all relevant to this post, but I don’t personally smoke cigarettes (I occasionally share a hookah with friends, and VERY occasionally enjoy a cigar).

Do you invest in “sin stocks” or do you try to follow a SRI approach?

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{ 20 comments… read them below or add one }

1 Traciatim

Real socially responsible investors would be investing in these stocks, and donating all profits to charities that rally against the sinful activity or help victims. If they pay eligible dividends all the better, you get preferred treatment on the income and and a refund on the giving end, plus you help the people affected by the product.

It’s a win-win-win. Not doing this and avoiding the stock on purpose is simply turning a blind eye.

2 Four Pillars

I agree – the reality is that smoking/drinking are perfectly legal and not buying their stocks because you don’t like smoking or drinking is just being judgemental (which I never am!).

The biggest problem with the whole SRI thing is who decides what is ethical or not and where do you draw the line?

3 guinness416

I’ve always felt the same way as traciatim – if you object to cigarette companies, take their dividends and go spend them on something which is in line with your values. (Especially as, with a smoking spouse, I’ve spent thousands on the damn things over the years – I want some of that back!)

I’m also pretty uncomfortable with splitting stocks into “good” and “bad” comapnies. I’ve no doubt but that they’re all probably pretty scummy and I’m sure there are a bunch of firms which are inoffensive on the surface who are making the world a significantly worse place. (Re your BMO example, Bell though …. I would really have to swallow my distaste there).

I actually wasn’t aware there was THAT much objection to investing in these stocks. I knew the sin index existed but have never actually spoken to anyone who feels strongly on the subject.

4 Matt

The article is pretty fairly written, however it tends to avoid the pro-active nature of most SRI funds. I invested in SRI funds for the positive changes they can effect on the economy by supporting clean and green technologies. It’s a shame that most people equate SRI with the “Can’ts” and the “Don’ts” of investing instead of seeing the potential for these funds to change our industry and economy for the better. That said, I probably will get out of Ethical mutual funds and into Ethical index funds. Mutual funds are a pretty feeble investment vehicle in my opinion.

5 Canadian Capitalist

I used to own Philip Morris and Anheuser-Busch but I didn’t search exclusively for “sin stocks”. They just appeared to be attractively valued when I invested in them. Like you, I’m not really fussed. If its legal, I’ll invest in them.

Where do you draw the line? Resource companies dig and drill in wilderness areas. Aerospace companies are involved in supplying arms to the military. The list goes on… Still, if someone feels strongly about SRI, it’s okay to avoid these companies. I don’t judge their investing behaviour, just as I don’t want my opinions to be judged.

6 Mr. Cheap

Traciatim & guinness416: I’ve had the EXACT same thought and had planned to post on it! Guess it’s not as original an idea as I’d thought (that or we’re all pretty smart – let’s go with this option!)

Mike & Canadian Capitalist: Where to draw the line is the big question. For me if a company is on a publicly traded exchange, I’m ok investing in it (I’m not interested in buying into a loan sharking business, profitable though it may be). I’m ok with people investing in SRI (what do I care?), I just have my doubts that they’re accomplishing what they think they are.

Matt: Fair enough, but how do you think buying publicly traded companies will accelerate the changes you’re hoping for? Wouldn’t you be better investing at the angel or venture-capital stage if that’s what you’re hoping to accomplish?

7 Potato

“SRI are fine for what they are, but I somewhat disagree with the underlying philosophy. To use my Rothmans stock as an example, not a single additional cigarette was sold because Im the owner of part of the company. If I had sold my Rothmans stock to Mike, the company would continue to function in EXACTLY the same way it had before the sale. “

On an individual level, that’s true, but once you get enough people avoiding a company, their cost of capital increases because the market for the bond/stock issues isn’t as large. For cigarette companies, their issuing days look to be over, so it’s pretty futile there. But as Matt points out, the opposite happens for the “good” side of the SRI coin: capital-hungry start-ups find a larger, more forgiving market for their issues because the investors are willing to forgo maximum returns in exchange for promoting their social/environmental beliefs.

8 Mr. Cheap

Potato: PLEASE correct me if I’m wrong (I’d really rather understand things properly and I’m not 100% certain of this), but in the case of people avoiding companies for ethical reasons, isn’t it more likely that instead of the company getting to the point where cost of capital increases that non-ethical investors would realize the company is under priced, then buy it right back up to the proper value?

Could investors like Matt really sustain an inflated price?

9 Four Pillars

Mr. Cheap – regarding Matt’s suggestion I would assume he’s talking about getting access to the annual meeting and saying what you want to say at that point.

10 Mr. Cheap

Mike: I’m not so sure, he talks about “I invested in SRI funds for the positive changes they can effect on the economy by supporting clean and green technologies.” which seems to be more than just arguing for ethical choices at annual meetings…

11 Charles in Vancouver

Just to point out, I’m a small investor attempting to balance a desire for low fees and for socially responsible investments. So I use a modified “couch potato” portfolio. My Canadian equities are in XEN and my US equities are in KLD. My international equities are in the unscreened fund VEA, but only because there is no acceptably-low-fee alternative available right now with screening. My intention is to transfer that portion of my portfolio to any such investment as it becomes available. (Pax World and Claymore have both long ago announced they would be selling socially screened international ETFs but neither has actually managed to launch their product yet.)

I do invest smaller amounts in non-screened funds through TD e-funds, for the sole reason that it saves me on fees. When I reach a threshold value I will sell e-funds and buy screened ETFs instead.

12 Mike

Mr. C – True, he might have been talking about more of a Tyler Durden style of activism but I was just imagining a Rothmans annual meeting – incredibly thick smoke, lots of phlemy coughing and 1 lone activist trying to show a NFB film on the dangers of smoking.. 🙂

13 Woody

The good thing is that the companies that profit from sin products have lucrative and easy sales and then taxpayers pickup the cost of damages caused by those sales through taxes, kind of like risk-free investing to stockholders.

14 Potato

Mr. Cheap: I think that all depends on how many people (or more properly, how much capital) follows SRI, and how dedicated they are to it (i.e.: would an extra 0.1% return draw them back to a “sin” stock? 1%? 10%?). If 99% of the world’s capital was religiously against investing in say tobacco, then would the other 1% form enough of a market to get it up to fair price? Conversely, if only a small fraction of capital was directed according to SRI, and not very stringently at that, then you’d never notice the effect…

I don’t follow tobacco stocks, but you may be able to answer that for the real-world based on your investments: would you say that they were trading at fair value? I was going to say that it would probably be easier to see an effect on where the capital gets concentrated, rather than what it avoids, since even a fairly small amount of capital can raise the prices on a small number of “socially positive stocks” — but I went looking to iShares for their social index fund, and in the top 10 holdings at least it looks identical to the largecap 60 index, with the exception of Barrick. I wasn’t expecting it to be quite so close 🙂

Anyhow, taking the iShares example, with ~$10B in the XIU fund and ~$20M in XEN, it looks like such a tiny part of the capital in Canadian markets is following a socially responsible investing strategy that you’d never see the effect in real life. Plus, it looks like the reason that the SRI funds got just as good results as the general market is that they look a lot like closet index funds!

15 DuckConference

This came up for me, since I was interested in buying an oil service sector ETF (as a small part of a portfolio) but then decided against it due to Halliburton making up a pretty huge portion of those funds.

16 DividendMan

Sin stocks all the way! What performs better than banks with government backing/oligopolies, oil companies with monopolies, massive conglomerates who can take advantage of currency fluctuations and tech giants that squeeze out the little guy?

I would invest in puppy killing clinics if they made enough money 🙂

17 Thicken My Wallet

One of my favorite sayings (and I think its my own) is “business is legalized crime.” Its a sloppery slope to impose your value systems onto someone else for what is legal behavior according to the state.

I gotta say, none of my readers crush on me. I am feeling kinda of low right now. You clearly got some mojo going!

18 Mr. Cheap

TMW: So, would an extension of your saying be that lawyers help criminals commit legal crime? 🙂

I *DEFINITELY* agree that substituting the law for personal morality is very dangerous (and I can see how what I’ve written may be leaning in that direction). I guess the point I was trying to make when I repeatedly referred to legal in the post and comments is that society sanctions (for better or worse) the activities of “sin stock” companies, and that attacking the companies themselves (and laws that allow them to operate) is where opponents should direct their energies, not at investors. If people are already doing that (and also going after investors), fair enough, but it doesn’t make a lot of sense to attack investors and give the companies and lawmakers a pass.

RE: the crush, I’m a big stud on the Internet, but you probably get more people crushing on you in real life than I do ;-).

Austin Powers: So I started to work my mojo, to counter their mojo; we got cross-mojulation, and their heads started exploding.

19 Akkei

I certainly agree with this post when it comes to people judging you for the investments you make. However, my personal preference is to own stocks of companies that I actually like. There are many choices and alternatives on the market (very true in the US, maybe less in Canada) and I do not wish to own companies that I dislike. I despise Bell for a very bad customer experience I had with them and I would feel kind of dirty if I would become an owner of this company. But it has never crossed my mind to buy their stocks and to use their dividends against them, or to cut ties with everyone that owns this stock as a matter of fact. I’m sure many feel the same way about Rothmans and your personal experience probably has more to do with bad luck than being the manifestation of a general sentiment.

20 Matt

Interesting to see what other posters had to write. When it comes to my own investing style, I’m more of a passive investor: I recognize the need and value of investing for my future, but my investment ambition comes quite short of starting a blog on the topic. 😉 I do believe that investing is just another facet of my life and I don’t see why it should be exempted from the values I hold on a day to day basis, all talk of legality aside. So, no puppy killing clinics for me! Also, I’m investing for the long term and I’d like to think that my investments are working towards a better future for myself and for coming generations and, although I’m no investment wizard, I’m pretty sure one can get decent returns over the long term investing in “ethical” funds.

To answer some of the criticisms that have been lodged against ethical funds, it may not be a perfect or even particularly effective solution, but it is sending a message of sorts to corporations that there are investors out there interested in more that the mere bottom line. As with any social action, it takes a critical mass to achieve results and I’m sure I won’t regret my decision to be at the vanguard of this movement. And the best part? No dead puppies on my conscience!

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