Responsible Investor

Can enhanced analysis deliver social and environmental benefits?

Insight’s Rory Sullivan studies the SRI quest for the ‘Holy Grail’.

For many in the SRI community, achieving the full recognition and integration of environmental and social issues in investment analysis has been seen as ‘The Holy Grail’. The hope is that ‘enhanced analysis’ would deliver not only better investment returns but also contribute to more positive social and environmental outcomes. The rationale is that companies will be less likely to behave in ways that are socially or environmentally harmful if their performance on social and environmental issues is properly reflected in their share prices. Are social and environmental issues already integrated?
This assertion presupposes that these issues are not presently being taken into account in investment research and decision-making. However, some social and environmental issues are already well understood and accurately analysed by the capital markets. For example, the risks of tobacco litigation – at heart, an issue of corporate ethics, transparency, and public health – and the implications of the EU Emissions Trading Scheme for the electricity utility sector have already been extensively researched. Notwithstanding these examples, it is

probably fair to say that many social and environmental issues have yet to receive the same level of investor attention. The reasons are complex: many environmental and social issues play out over the long-term; it can be difficult to assess their impacts on a company’s finances or balance sheets; the point at which they become relevant or material to a company’s fortunes can be hard to pin point. In some cases, regulation or consumer concern that would trigger companies to respond has been lacking. Are social and environmental issues material to financial performance?
While there is no universally agreed definition, financial analysts frequently use numerical thresholds – five percent of a company’s revenue or five per cent moves in a company’s share price are common rules of thumb – to assess the financial materiality of a particular issue. In this frame of reference, the vast majority of social or environmental issues – notwithstanding examples such as tobacco litigation and climate change – are simply not material. As a result, traditional financial analysts have tended to overlook these issues, focusing instead

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