Thursday, September 29, 2005

Can Socially Responsible Investing Green Our Economy?

“The myth about environmentally and socially responsible investing is that as an investor, you have to give something up - investment quality, portfolio diversification, or fund performance. At Sierra Club Mutual Funds, we beg to differ. While you do your part to protect the planet for your children and for future generations, we do ours by seeking attractive investment opportunities in well-known companies that meet strict Sierra Club social and environmental guidelines (”

Suppose that there are millions of rich people who only want to invest their assets in “Green” companies. How do such Investors determine which companies are Green and which are Brown?

This Green Mutual Fund takes a stand. “We exclude companies that fail to recognize and minimize environmental costs. We do not invest in companies that are not proactive in the reduction of toxic emissions.”

Do you notice the problem here with regards to asymmetric information? How does this Fund know if the CEO of the firm is “internalizing” environmental costs? What information does the Sierra Club Mutual Fund use to partition firms into those that are “naughty” and those that are “nice”?

The second part of the quote suggests that they use the U.S Toxic Release Inventory “reduction of toxic emissions” but this data set is self reported by firms and as I understand it the Federal Government does not do an audit of whether these firms are telling the truth about their emissions.

So, if a past “Brown” firm changes it ways and greens its production process how would the Sierraclub Fund know this? If the Sierra Club Fund keeps labeling such a firm a “Brown” firm then this firm will not be rewarded for changing its ways. My point is that the SRI industry would be a more effective force for greening capitalism if the accountant’s information about firms’ actual environmental performance was up to date and complete. With incomplete, out of date information about a firm’s environmental performance the SRI funds are much less likely to achieve their goals.

One way to achieve the SRI goal would be if there could be 3rd party certifiers (like auto mechanics who inspect a used car before it is sold) to examine a firm to determine its environmental impact and how it has changed over time. In this case, firms who know they are “clean” who have been given a bad grade by the Sierra Club Mutual Fund could request a certification to signal to the Jane Fondas that they are clean and merit SRI investment.