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A New Era For Socially Responsible Investing

By Kathryn Tully

Socially responsible investing allows high-net-worth investors to advance existing philanthropic priorities and improve their portfolios.

Affluent individuals are often generous philanthropists, but do their investment portfolios enhance or confound their efforts to benefit society?

For high-net-worth investors around the world, socially responsible investing, or sustainable investing as it is sometimes called, is an increasingly popular way in which they can advance existing philanthropic priorities, generate a financial return, maintain their risk and return objectives, and diversify their portfolios.

Around the world, it's a strategy that is growing fast. According to the Global Sustainable Investment Alliance, investment approaches that consider environmental, social and governance factors in portfolio selection have grown from $13.3 trillion in global assets at the start of 2012 to $21.4 trillion at the beginning of 2014. Over this period, the fastest growing region was the U.S., up 76 percent to $6.57 trillion in assets, followed by Canada and Europe.

"In the past two to three years, we've seen a lot more interest in socially responsible investing from our private high-net-worth clients," says Brian Losak, Director of Portfolio Management, Global Wealth, at BBVA Compass. "Before that, most of the interest came from institutional clients, such as foundations and endowments, who often have a stated mission about how they want to direct their funds."

Today, there are a wide variety of different investment products and funds on offer to socially responsible investors. Off-the-shelf funds, such as mutual funds and exchange traded funds that track companies bringing about social, environmental or governance improvements are growing fast. Together, they accounted for almost $2 trillion of investment assets in the U.S. in 2014, according to The Forum for Sustainable and Responsible Investment.

Affluent investors can also buy into fixed income products such as social impact bonds, which allow governments, municipalities and non-profits to fund social and environmental programs, and private equity or venture capital impact investment funds, which finance companies and organizations involved in promising social and environmental projects.

Portfolio Screening

However, Losak says that it is possible to create portfolios of individual securities based on a high-net-worth client's values: "We create highly customized portfolios based on each client's individual needs, so we ask them, ‘is there anything that you feel strongly about that you'd like to see reflected in your portfolio?' We can restrict companies that are engaged in specific activities that the client does not like, such as firearms or tobacco sales, for example, by screening all the stocks in our database. We call that negative screening."

Investors can also use positive screening, where their portfolio manager seeks out the stocks of companies that enhance their specific values, such as protecting the environment, alleviating poverty or advancing human rights.

Losak says that the primary concern of most of his high-net-worth clients is to build an asset allocation that matches their risk and return profile and their secondary concern is how to fit socially responsible investments within that. That's not always the case, though. "Some clients are really passionate about something and that will take up most of the conversation about how we tool their portfolio."

Improving Returns

As investments that are often uncorrelated to traditional securities, socially responsible investments can also be a useful diversification tool in a portfolio and match or even beat market returns.

A new Impact Investing Benchmark from Cambridge Associates and the Global Impact Investing Network, for example, finds that between 1998 and 2014, global private impact investment funds under $100 million had a 9.5 percent net internal rate of return, versus a 4.5 percent return for comparative funds under $100 million without a social impact agenda.

Portfolio screening rarely produces such starkly different results — Losak says that negative screening usually removes just a handful of stocks from a portfolio of 150 or more, so has a negligible impact on returns. But the more you narrow the focus of the portfolio, the more divergence you can see in market performance: "That could be good or bad, depending on which sectors are doing well in the broader market at the time," he says.

However, Losak thinks that most of his clients are not primarily engaging in socially responsible investing to garner a particular return, but because they feel strongly about the issues.

That's also why he believes that socially responsible investing will likely become even more popular in the future. "Generally speaking, social issues seem to receive a lot more media attention these days and millennials care a lot about them; maybe more so than previous generations. As social awareness increases throughout the world, I can see socially responsible investing continuing to be a hot topic," he says.

Kathryn Tully is a business and financial journalist who is based in New York.

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