investors and the environment lloyd kurtz principal nelson capital management environmental...
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Investors and the Environment
Lloyd KurtzPrincipalNelson Capital Management
Environmental Sustainability in Business & Law ConferenceUC Davis School of LawFebruary 12, 2008
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Topics
Background
Can Environmental Investing Work? (An Academic Review)
Recent Performance, Prospects for the Future
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Background
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1971: Pax World Fund
founded, first socially
screened mutual fund
1980s: Religious investors join
forces with the Nuclear Freeze
Movement and church groups in
South Africa
1989: Launch of Domini Social
Index, first broad-based social index
1971 1980 1989 – DSI 400
19th Century: Religious investors
avoid investing in alcohol, tobacco,
gambling, weapons manufacturing,
and other objectionable activities
Social Investing Has a Long History
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Money and Faith
“In the New Testament, Jesus had more to say about money matters than any other single subject, be it worship, sexual behavior, violence and peace, or even eternal life...for those who would follow Jesus, economic questions are really spiritual questions.”
- Burkholder (2002)
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Source: Social Investment Forum, SRI Trends Report 2005
ShareholderAdvocacy Only
26%$586 billion
Socially Responsible Investing in the U.S.
Screening + Shareholder Advocacy
5%$117 billion
Screening Only68%
$1,568 billion
Community Investing
1%$20 billion
Socially Responsible Investing in the U.S. reached $2.3 trillion in 2005
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Socially Screened U.S. Mutual Funds
0
50
100
150
200
250
1995 1997 1999 2001 2003 2005
Source: Social Investment Forum
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Can Environmental Investing Work?
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Arguments Against
Hard, if not impossible, to implement. Theory says: own everything. Reduces the opportunity for outperformance. Moves focus away from risk and return.
Expect performance problems.
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Theory Says: Own Everything
In modern portfolio theory, the market portfolio (point P) offers the best combination of risk and return. This can be accessed via a low-cost index fund.
The argument theorists make against social investing is the same one they make against active portfolio management.
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Long-Term Performance
Slightly Higher beta Modest growth bias Sector weights
Overweighted in Technology, Consumer
Underweighted in Energy, Utilities
Annualized ReturnsSince 5/1/90
+11.2%
+10.7%
Domini Social Index
S&P 500
Domini Return Differences Likely Due To:
Source: KLD Website, as of January 31, 2008.
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Complex Attribution Studies
Equities Kempf and Osthoff (2006)
1992-2004 Small Positive SRI effect
Geczy (2003) 1963-2006 No SRI Effect
Bauer, Koedijk, and Otten (2002) 1963-2001 No SRI Effect
Fixed Income Derwall and Koedijk (2006)
No SRI Effect
These studies all use the Carhart model, which accounts for style, market capitalization, and momentum effects.
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Show them the chess slide
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Arguments For Environmental research is getting better. Perhaps good environmental management is an
indicator of good management. Reduces the risk of earnings disappointments due
to environmental problems. Moves focus away from the near term to the long
term.
It’s worth a shot.
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A Few Supportive Studies
Dowell, Hart, and Yeung (2000) Found that companies with the highest stated environmental
standards tended to be awarded higher valuations by the market.
Guenster, Derwall, Bauer, and Koedijk (2005) Find that firms with high environmental ratings (Innovest) had
superior earning power and stock performance.
Edelen (2004) Showed that the investment universe of the Sierra Club Stock
Fund outperformed the S&P 500 from Q1:2003 to Q3:2004.
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How Urgent is the Problem?
“Studies by the World Resource Institute and many others show that, with some regional exceptions, every life support system on the planet is in decline (i.e.: clean air, clean water, forests, topsoil, aquifers, fisheries, wetlands, biodiversity, etc.).”
- Frank Dixon, 2004
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Recent Performance
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A Rough Three Years
Slightly Higher beta Modest growth bias Sector weights
Overweighted in Technology, Consumer
Underweighted in Energy, Utilities
Annualized Returns
Source: KLD Website, as of January 31, 2008.
3 Yrs Ended 1/31
+5.5%
+7.3%
Domini Social Index
S&P 500
Domini Return Differences Likely Due To:
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The Price of Oil
0
10
20
30
40
50
60
70
80
90
100
Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08
Source: Bloomberg
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05 06 07
100
110
120
130
140
150
160
170
180
190
200
210
S&P 500 (TR) / Energy - SEC (SPN01.R) 177.4 S&P 500 (SP50) 110.7
Indexed Price11-Feb-2005 to 8-Feb-2008 (Weekly)04-Feb-2005=100; Local
Data Source: Prices / Exshare ©FactSet Research Systems 2008
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05 06 07
80
90
100
110
120
130
140
150
160
170
180
S&P 500 (TR) / Energy - SEC (SPN01.R) 154.5PowerShares WilderHill Clean Energy Portfolio (PBW) 134.8S&P 500 (SP50) 108.9
Indexed Price11-Feb-2005 to 8-Feb-2008 (Weekly)04-Mar-2005=100; Local
Data Source: Prices / Exshare ©FactSet Research Systems 2008
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Sierra Club Stock Fund Performance
100
105
110
115
120
125
130
135
140
145
2003 2004 2005 2006 2007 2008 YTD
Val
ue o
f $10
0 (I
nves
ted
12/3
1/03
)
Sierra Club Stock Vanguard Growth Index Vanguard 500 Index
Source: Morningstar, Nelson Capital analysis
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Winslow Green Growth Performance
Source: Morningstar, Nelson Capital analysis
100
110
120
130
140
150
160
170
180
2003 2004 2005 2006 2007 2008 YTD
Val
ue o
f $10
0 (I
nves
ted
12/3
1/03
)
Winslow Green Growth Vanguard Growth Index Vanguard 500 Index
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Generation Asset Management “On course.”
Source: “When principles aid performance”, Financial Times, April 30th, 2007
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Further Information
Social/Environment Investment New Service www.socialfunds.com
Annotated Bibliography of Academic Research www.sristudies.org
JP Morgan Climate Change Investment Research http://www.jpmorgan.com/pages/jpmorgan/investbk/
solutions/research/climatechange
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Notes
Bauer, Rob, Kees Koedijk, and Roger Otten. "International Evidence on Ethical Mutual Fund Performance and Investment Style." Working Paper, January 2002.
Derwall, Jeroen, and Kees Koedijk. "Socially Responsible Fixed-Income Funds." Working Paper, Erasmus University, May 2006.
Dowell, Glen, Stuart Hart, and Bernard Yeung. "Do Corporate Environmental Standards Create or Destroy Market Value?" Management Science, August 2000.
Edelen, Roger. "Benchmarking an Environmentally Responsible Investment (ERI) Portfolio." Sierra Club Funds presentation at SRI in the Rockies conference, October, 2004.
Geczy, Christopher C., Robert F. Stambaugh, and David Levin. "Investing in Socially Responsible Mutual Funds." Wharton School, Working Paper, May 2003.
Guenster, Nadja, Jeroen Derwall, Rob Bauer, and Kees Koedijk. "The Economic Value of Corporate Eco-Efficiency." Working Paper, Erasmus University, July 25, 2005.
Kempf, Alexander and Peer Osthoff. "The Effect of Socially Responsible Investing on Financial Performance." Working Paper, University of Cologne, Germany. June, 2006.