The New Face of Social Investing

While such companies historically sparked the ire of socially responsible investors, Jason Baron, a senior vice president and portfolio manager at U.S. Trust, says more sophisticated strategies are redefining what it means to invest with the greater good in mind.

Techniques being rolled out by Baron’s firm and others can help investors improve returns and assess a portfolio’s social and environmental footprint: Baron calls this “socially innovative investing.”

One strategy takes an investment universe, such as the Standard & Poor’s (S&P) 500, and utilizes computer programs to rate companies according to a long list of social factors—anything from the diversity of a board of directors to the carbon footprint of a company’s supply chain. Firms that score poorly in one or more categories are eliminated from the model portfolio.

“Companies that remain committed to these principles not only meet the criteria of ethically minded investors, but they also stand to benefit financially,” Baron says.

That is because companies that consider these factors, on U.S. Trust’s analysis, are better positioned in general to succeed in the modern economy—especially as water scarcity, food availability and other geopolitical issues are exacerbated by growth of the global middle class.

Baron conceded that making stock selections in this way can significantly increase tracking errors in a portfolio—especially when an investor uses a traditional market-capitalization approach to asset allocation. But that is where modern computing technology enters the picture.

By using “portfolio optimizer” technology, Baron says, an investor can compensate for such tracking errors and develop an ethically constructed portfolio with the same or lower risk than the underlying market-cap-weighted index, with the same or better returns.

Baron says the market for socially responsible investing (SRI) reached $3.7 trillion in 2010 and continues to grow, especially among women. In a U.S. Trust survey, 65% of female respondents said social, political and environmental factors are “somewhat” or “extremely” important in investment decisionmaking, compared with 45% of men surveyed.

The same survey found that just 25% of investors have screened their portfolio to analyze its social impact.

“We’ve seen that women generally have stronger feelings about the importance of socially minded investing,” Baron says. “They seem to be more willing to take on risk to get socially innovative investments.”