Each year, the winner of the Moskowitz Prize for scholarly research of socially responsible investing (SRI) is announced at the “SRI in the Rockies” conference. The 2010 Prize winner is “Corporate Environmental Management and Credit Risk,” by Rob Bauer and Daniel Hann. Their study found that companies with strong environmental records consistently pay lower costs for debt, while firms with weaker records face higher costs of financing and lower credit ratings.

SRI strategies have typically been focused on equity investing, but some believe that environmental, social and governance (ESG) metrics could help investors evaluate credit risk and quality. (See this Dec. 1 article from Citywire of the UK, and these 2009 comments from Ran Fuchs of MSCI.) The Bauer/Hann study appears to confirm the utility of ESG research for fixed-income investment.

Co-authors Bauer (former head of research at Dutch pension fund ABP) and Hann (a PhD candidate at Maastricht University) studied the environmental practices of 582 US firms between 1995 and 2006. Their performance data was drawn from the database of KLD, which is now part of MSCI ESG Research. Along with finding that a company’s environmental performance is associated with its cost of credit, Bauer and Hann also found that this association has grown stronger in recent years – a trend they expect to continue.

In a November 2 Wall Street Journal article, reporter Carolyn Cui wrote that “math geeks and altruists are forging unlikely alliances in the quest for better investment returns.” “Quants and Do-Gooders Unite” provided recent examples of the integration of environmental, social and governance (ESG) data into mathematical modeling of possible portfolio performance.

ESG factors are conventionally understood as “qualitative” attributes of a given business, rather than as comparative data that could tell investors how that business’s stock may perform. For example, a traditional socially responsible investor (SRI) might seek to avoid holding any companies that produce military weapons. For that investor, the only numbers needed are binary; a company either passes their “no weapons” screen or not.

Over the past 20 years, SRI/ESG research firms have sought to enable more subtle and granular analysis of corporate ESG performance. MSCI ESG Research progenitors Innovest and KLD developed comprehensive frameworks to generate comparative data across a spectrum of ESG indicators, from carbon emissions to executive compensation practices. IVA, Global Socrates, and the KLD Indexes (now MSCI ESG Indices) support both qualitative and quantitative approaches to portfolio construction.

While Ms. Cui’s article highlights the novelty of “math geeks and altruists” working together, such détente isn’t without precedent. In 2005, KLD worked with Barclays Global Investors to create an exchange-traded fund based on what is now called the MSCI KLD 400 Social Index.

On Monday, the New York Times reported that Bank of America would resume foreclosures in 23 states where such actions had been suspended in recent weeks. The moratorium had been put in place because of concerns over both the foreclosure process and a growing concern about how, in many cases, it was unclear which entity actually held the mortgage notes for the properties in question.

Why end the moratorium now, when such questions are still outstanding? The Times’ Floyd Norris noted that B of A was scheduled to report quarterly earnings on Tuesday, and suggested that the speedy resumption of foreclosures “is likely to be greeted favorably by shareholders.”

But do investors really want to see a perfunctory halt to the review of American mortgage practices? The Financial Times reported Friday that the SEC is beginning an investigation of the mortgage mess, which would indicate that there is a lot that investors and the public still don’t know about this problem. More information and analysis of lending, servicing and securitization practices could help markets properly value bank stocks.

Towards this goal, the MSCI ESG Research team presented an October webinar entitled “A New Normal for Banks: Sustainable Finance After the Crisis.” Click here for a free replay of this webcast. 

[Click here to get access to more MSCI ESG research and analysis of the banking sector.]

When a business faces new regulations, is shareholder capital best spent on complying with the rules, or on lobbying to overturn them? How companies answer this question will be of growing concern for investors in coming years.

On Wednesday, the Los Angeles Times reported on a shareholder campaign targeting three large oil and gas companies for their spending on an effort to overturn California’s greenhouse gas (GHG) regulations. The ballot initiative, called “Proposition 23,” would delay or prevent implementation of the 2006 Global Warming Solutions Act, known as “AB32.”

The fight over Prop 23 highlights two related issues. First, corporations’ political spending – now explicitly protected speech after the Supreme Court's 2010 Citizens United ruling – could give them more influence over laws and regulations that involve their businesses. And second, the oil and gas sector is only the first whose competitive landscape could be redrawn by GHG restrictions, such as the low-carbon fuel standards of AB32. 

Forty-eight years ago this week, President Kennedy summoned Americans to put a man on the moon. Today we need a new Apollo project to re-launch our economy and protect our planet.

This 21st century race features the United States against a new rival, China, which recently surpassed Japan as the world’s second-largest economy and the U.S. as the world’s largest carbon emitter. Both countries face a common adversary in global warming, which shows no respect for politics or international borders.

On August 23, the Wall Street Journal published an editorial by Dr. Aneel Karnani that questioned the value of corporate social responsibility (CSR). His argument was directed against “pleas” and “appeals” for executives to “act voluntarily in the public interest and against shareholder interests.” He called CSR “irrelevant or ineffective,” an “illusion, potentially a dangerous one.” A reader unfamiliar with the term might surmise that CSR is actually a dangerous chemical, like DDT.

The socially responsible investing (SRI) community, as expected, took issue with Dr. Karnani’s column. Social Investment Forum (SIF) CEO Lisa Woll wrote to the Journal, countering the polemic with real-world evidence about the positive impact of corporate sustainability efforts. (With permission from SIF, Ms. Woll’s letter is printed in full at the bottom of this article.)

Besides its empirical shortcomings, Dr. Karnani’s case also betrays a methodological flaw that is both common, and instructive: While we can tell what he takes issue with, it’s never quite clear who he’s talking about. Here is the plainest statement of his thesis about corporate social responsibility:

Last week, the Harvard Business Review blog presented some Harvard faculty responses to the newly signed Dodd-Frank financial reform bill. The Business School Professors’ sentiments range from the “cautious optimism” of Robert Steven Kaplan to Robert C. Pozen’s assertion that the act “misses the main cause of the crisis,” which was Fannie Mae/Freddie Mac, in his opinion. And while David A. Moss believes that the bill takes important steps to rein in “too big to fail” banks, Clayton S. Rose says that “little has been done” to defuse the systemic risks of such institutions.

None of the Professors focus on what Joseph Fuller, co-founder of Monitor Group, has called “The Terminator” of modern financial markets: computer-based modeling and trading programs. In a 2009 piece in The American Scholar, Mr. Fuller argues that the work of “quants” worsened the financial crisis. He also describes regulatory steps that could help dampen the volatility produced by automated trading programs.

Neither the Dodd-Frank Act nor Harvard’s Professors assign high importance to quant-driven volatility, but Mr. Fuller’s argument suggests that they should. Automated models drive hair-trigger, lockstep responses to market signals. “The Terminator” has also discouraged the sort of qualitative historical analysis that many investors, including those who consider environmental, social and governance (ESG) factors, believe is the key to long-term value creation.

Two days after drafting my post on Jeffrey Immelt’s observations on American industry, I read Tim Duy’s superb piece on the loss of manufacturing jobs.  (Hat tip to Steve Clemons and New America Foundation’s indispensible “Views on the Global Economy: Your Daily Briefing” (July 6, 2010).)

Mr. Duy cites statistics and provides graphs illustrating the problem. His recounting of conventional wisdom on this subject is spot on. His links to a recent exchange between Yves Smith and Rajiv Sethi are also worth following.

But most interestingly, in view of Jeffrey Immelt’s Rome comments, is the three bloggers’ focus on former Intel CEO Andy Grove’s important Bloomberg.com article, “How to Make an American Job Before it's Too Late.”  Mr. Duy quotes Rajiv Sethi: 

The Financial Times has reported provocative remarks made in Rome last week by General Electric CEO Jeffrey Immelt to a group of Italian executives.

The whole article deserves reading, but I want to focus on one FT quotation of Mr. Immelt:  "People are in a really bad mood [in the US].  We are a pathetic exporter . . . we have to become an industrial powerhouse again but you don't do this when government and entrepreneurs are not in synch."

[Ed. Note – The Dodd-Frank financial reform bill could significantly reshape the American economic landscape. Some of its provisions will affect core activities of the socially responsible investing (SRI) community, such as proxy campaigns involving executive pay and corporate environmental, social and governance (ESG) practices.

The Social Investment Forum (SIF), of which RiskMetrics is a member, has coordinated the SRI community’s input on what became the Dodd-Frank bill. SIF Director of Programs (and RiskMetrics alum) Peter DeSimone wrote a succinct summary of Dodd-Frank for the SIF listserv, and he has graciously permitted us to repost his letter here. If you have further questions about the implications of the bill for investors, please contact SIF.]