SRI Notes

Economic Determinism vs. Biological Determinism

I've argued before that the underlying intellectual tension in social investing is the rejection by social investors of the idea that people are, or should be, primarily motivated by economic factors (as discussed in last year's Christmas post and Jim Hoopes' reply).

Frans de Waal has written a new book, Primates and Philosophers:  How Morality Evolved.  It is based on a series of lectures he gave at Princeton, and Princeton University Press lets you read chapter 1 free, here.  In a nutshell, de Waal believes morality is a result of human evolution, and is to some degree hard-wired in us. 

This challenges economic determinism with a kind of biological determinism.  On one level I'm happy to see it - economic analysis of human behavior can be frustratingly superficial, so it is nice to see someone push back and argue persuasively that something else - anything else - matters.

But careful what you wish for - if you accept de Waal's account, a host of new questions arise.  If human ethics and morality evolved, what does that say about the philosophy of ethics, which is supposed to be derived from reason - or religion?  I suspect Mr. de Waal will find his share of detractors.

Well, no one said it was going to be simple.  Primates and Philosophers offers good new reasons to pay attention to questions of ethics and morality.  Extra credit for getting a blurb from the estimable Robert Sapolsky:

"Frans de Waal has achieved that state of grace for a scientist--doing research that is both rigorous and wildly creative, and in the process has redefined how we think about the most interesting realms of behavior among nonhuman primates--cooperation, reconciliation, a sense of fairness, and even the rudiments of morality...This is superb and greatly challenging thinking."

The Motley Fool on SRI

Back in the early 70s there was a significant surge in interest in socially responsible investing.  There was lively debate with articulate advocates like Milt Moskowitz (book plug here) writing in the New York Times, and smart people like Milton Friedman and Burton Malkiel (see his speech in this anthology) raising concerns about the emerging practice.

And that was really the high-water mark for a long time.  The general interest in social investing sharply tapered off as the energy crisis hit and the Nifty 50 era came to a crushing end with the 1973-74 bear market.

The present era bears a lot of similarity with those days.  Oil prices are through the roof, and with the $100 forecast now looking kind of plausible, the hot new forecast is for $200 oil.

And yet interest in SRI has never been stronger.  You see SRI in places it has never appeared before, like The Motley Fool and Value Line (thanks to Lorne Abramson for the tip on that one).

I suspect some of this has to do with the sophistication of the tools available today - social investors can manage portfolio risk in ways they couldn't in the 1970s.  Also, there are more funds in different styles, including some good value and and contrarian choices, so performance hasn't been universally poor during the energy bull market of the past three years, despite the weak recent returns of the social indexes.

Crystallizing the Executive Pay Debate

This brief piece by Bud Crystal is a must-read.

Rating the Energy Companies

I wrote last year about the energy problem - the underperformance of some social indexes as energy stocks took over the market in recent years.  It is not just an energy problem, it's a utility problem, too.  Here are the returns to the S&P 500 by sector for the three years ended 8/6/06 (source: Bloomberg):

Energy	131%
Utilities	66%
Materials	43%
Industrials	39%
Financials	33%
Telecom Serv	32%
Cons Staples	25%
Cons Disret	20%
Health Care	14%
Info Tech	14%

Many social investors avoid both energy companies and utilities - energy companies because of their environmental problems, and utilities because most are involved in nuclear power.  Whether these restrictions make sense can be debated.  A financial academic once asked me why we excluded stocks that will outperform with higher energy prices when they are the best thing that could happen to the alternative energy sector (they create a subsidy to development of cleaner energy).  And some influential people are arguing that, given our climate issues, nuclear could be part of the solution (Socialfunds covered this very well last summer).

Anyway, it's hard to outperform when you're underweighted the two best-performing sectors in the market.  The Domini Social Index is still ahead of the S&P 500 from inception and over the past ten years, but its three year record has been well behind the broader market as of 7/31/06 (annualized +8.5% vs. +10.8% - full performance details here).  The Calvert Social Index is in the same boat, up 8.0% over the same period (performance details here).

There are a couple of points I'd like to make about this:

• Social investors as individuals need to think hard about how they're going to handle these issues.  Energy matters a lot, not just in financial markets, but in the real world.  Economist James Hamilton has written intelligently about both the possibility we are near peak global oil production, and the impact of higher oil prices on the economy.  WSJ Online has a good online piece with contributions from both Hamilton and Robert Kaufman of Boston University.
• There are energy investments that are palatable to some social investors.  There are both ETFs and mutual funds focusing on clean energy.
• Nothing lasts forever.  Lee Raymond recently said "the seeds are being sown right now for another turn in the cycle of the oil industry.  For those people who think there will not be a day of reckoning on the other side, and I hope I live long enough to see it ... it just takes a long time in this industry for supply and demand to react. This isn't like going out and producing a few more semiconductors."  I have no idea if he's right, but it's something to think about.

And finally, I get a chance to mention the Canadia social research firm Jantzi Research on this blog.  Founder Michael Jantzi has been involved in social research since 1990, and knows what he's doing.  They have just published a report reviewing the sustainability records of 23 large energy companies.  BP comes out at the top of the heap, which is consistent with other research I've seen.