Socially Responsible Investment: An Introduction

By James Wellstead – Exclusive to Resource Investing News

Socially responsible investment is an emerging practice among a wide range of investor types and asset classes. While practitioners of the investment style are typically motivated by environmental, religious or social concerns surrounding the impacts of investments, responsible investment does not require the forfeiture of financial returns. On the contrary, in sectors like mining and resource extraction where environmental, social and political risks are high, responsible investment strategies offer investors value by going beyond asset valuations and company financials and analyzing operational and business risk.

What is Responsible Investment?

While often falling under a variety of names— responsible investment, sustainable investing, corporate social responsibility, green investing, etc.— socially responsible investment (SRI) incorporates social, political or environmental components into the analysis of an investment. SRI investments apply a concern for the ‘triple bottom line,’ going beyond the typical (financial) ‘bottom line’ analysis to include environmental and social priorities. By considering environmental, social and corporate governance (ESG) factors, SRI assessments can gauge the potential ESG impacts and the risk management strategies of businesses working towards the three bottom-line priorities.

The development of ESG analysis is no longer a niche market. SRI-focused investment funds can now be found amongst financial heavy-weights like Goldman Sachs, Mercer Investment Consultants, and Munich RE. While traditionally undertaken by institutional investors like mutual funds, pension funds, or insurance funds, which carry longer investment time-frames, ESG analysis has value for individual mining and resource investors as well.

SRI and Mining

The numerous risks associated with mining raise specific challenges that require increased attention. Assessing the ‘responsibility’ of mining majors like Barrick (TSX:ABX) , Xstrata (LON:XTA) or GoldCorp (TSX:G) is possible for investors through a variety of sustainability indices and metrics. The most popular examples are the Dow Jones Sustainability Index, the Global Reporting Initiative’s Sustainability Reporting Framework, and Extractive Industries Transparency Index (EITI). These indices provide investors with information to assess the performance of companies upon ESG variables.

The rationale of the metrics is that ESG information on practices such as government contract transparency, community engagement, or effluent monitoring programs can provide investors with pertinent information surrounding a company’s operation that can be relevant to their investment decision-making.

The debate as to whether or not SRI funds outperform funds which do not consider ESG variables remains unsettled. In a recent study assessing the performance of SRI funds since 2000 during times of financial turmoil, Dr. Olaf Weber from the School of Environment, Enterprise and Development at the University of Waterloo, concluded that “selected SRI funds reached a significantly higher return than the MSCI World Index during the whole time of measurement between December 2001 to June 2009 and in the bull and bear phase respectively.”

Dr. Weber, who shared these results at a session in the 2011 Canadian Responsible Investment Conference in Victoria, British Columbia, went further to claim that while SRI funds had a significantly higher return than the MSCI World Index, “the correlation between both is very high as well. This suggests a high influence of external conditions on the performance of company shares.”

Dr. Weber and his colleagues noted, however, that the financial literature on this question “shows mixed results.” With the difficulty of drawing tight statistical correlations on the utility of SRI indexed funds, Northwest Ethical Investments (NEI) Ethical Funds’ Vice President of Environmental, Social, and Governance Services, Robert Walker, said during a panel on ESG analysis at the Responsible Investment Conference that their research team has moved beyond index-based analysis to focus on the material risks associated with specific projects.

To assess these risks, NEI’s Ethical Funds teams creates ‘baseline expectations’ from a sector-specific indicator set intended to reveal if a company is effectively managing material ESG risks. Going beyond this, industries like the oil and gas or mining sector require further research and analysis to ensure ESG risks are being actively managed.

The reason for the material risk focus is because sustainability indices or corporate reporting initiatives don’t always accurately convey the ESG risks associated with mining or resource investments. BP is a prime example of a company that, despite maintaining a reputation as being ‘green’ as well as listed on the Dow Jones’ Sustainability Index, the BP’s Deepwater Horizon explosion has had massive environmental impacts, while costing the company and its shareholders billions of dollars.

The value of ESG analysis for mining and resource investment decision-making is also useful for greenfield production and mining juniors. Characteristics such as quality and size of resource deposit, cash flow, contract terms, liabilities and refining capacity are crucial components for making an informed investor decision; understanding associated environmental risks, community engagement efforts or corporate-government relations (especially in developing markets) are also critical data points. ESG related risks can offset production schedules for days or months and can have impacts for contract obligations which carry financial implications.

While responsible investing is primarily pursued by those driven to create optimal social or environmental outcomes, responsible mining investment is equally about risk management and being attuned to a wider set of business and operational risks. With growing presence of SRI funds, it appears that investors and businesses can find value in responsibility.