Socially Responsible Investing (SRI): Definition and How it Works

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Socially responsible investing (SRI), often called social investing, ethical investing is a popular form of choice for investment. Socially responsible investing (SRI) is a part of the social responsibility of investors. 

The social responsibility of investors helps society in the larger frame, Social responsibility investing supports companies that are engaged in the production of goods and services without harming humans or animals, directly or indirectly. 

Social investing eschews investing in harmful products like tobacco, alcohol, gambling etc. Today even big international events avoid these companies as sponsors for their advertisements. The purpose of SRI investing focuses on earning money from good causes.   

What is Socially Responsible Investing (SRI)?

Socially responsible investing (SRI) is an investment strategy that seeks to generate both income and create positive social impacts through investment. Examples of socially responsible investing include green energy producers or educational firms dedicated to the upliftment of the community. SRI investments have become an increasingly popular form of investing globally and in India in particular, since 2017, market statistics reveal. Morgan and Stanley revealed that 85% of individual global investors expressed an interest in SRI investing in 2019. Socially Responsible Investing (SRI) strategies employ two plans to meet their investment goals: firstly, earning income through investment; and secondly, choosing companies engaged in manufacturing products or providing services that contribute towards sustainable betterment of society. SRI (Socially Responsible Investing) is founded on the idea that investors influence business practices through investment decisions. By choosing ethical companies with minimal social or environmental impacts and avoiding those with detrimental impacts on society or the environment, SRI investors influence businesses to act more sustainably and responsibly. Common themes under SRI investment themes include environmental protection, human rights, and diversity issues.

SRI investments include investing in renewable energy companies which are working to combat climate change, investing in companies with effective diversity and inclusion programs avoiding investments in companies involved with weapons, tobacco or gambling, and investing in companies that employ effective natural resource management and pollution prevention methods. SRI (Socially Responsible Investments) has quickly gained in popularity as investors become more mindful of environmental and social concerns and seek to make a positive difference with their investments. More mainstream firms now provide SRI options – making SRI an appealing strategy both from an environmental and financial viewpoint.

What is the origin of Socially Responsible Investing?

Socially responsible investing (SRI), also referred to as sustainable, responsible and impact investing, dates back several centuries. Its origin is found within religious organizations like Quakers and Methodist Church that established investment guidelines based on their values. Quakers banned members from taking part in slave trade which marked one of the first instances of ethical investing.

Modern SRI was birthed during the 20th century through civil rights movements and an increase in focus on social issues, leading to mutual fund launches like Pioneer Fund with an emphasis on avoiding investments in “sin” industries such as tobacco or gambling. ESG factors also became key components of SRI; Pax World Fund became one of the first socially responsible mutual funds that integrated ESG criteria in their investment decisions.

In the 1990s, SRI witnessed further expansion through mainstreaming and impact investing, which seeks to generate both financial returns and measurable social and environmental returns. Major investment firms began offering SRI funds, enabling investors to align their financial goals with their values while community investing grew rapidly with non-profits providing capital for underserved groups or developing countries.

Recent years have witnessed the ever-increasing importance of Social Responsibility Initiatives for driving positive change and sustainable development. There is growing recognition of ESG factors’ effects on investment risks and returns, while the United Nations Sustainable Development Goals have brought awareness of global issues like poverty, inequality and climate change.

As a response, governments and regulators have introduced policies and regulations designed to promote sustainable finance by disclosing ESG risks and opportunities. For instance, the EU Sustainable Finance Action Plan mandates companies report ESG risks associated with their activities; additionally over 3,000 investors worldwide have signed the UN Principles for Responsible Investment.

SRI investment strategies such as ESG integration, impact investing and community investing offer investors a way to align their financial goals with creating positive social and environmental impacts – an approach increasingly relevant given global issues like climate change.

As Sustainable Investment and Finance has an illustrious past, its future looks promising. Young investors in particular are showing increased interest in making ethical investments that reflect their personal values; at the same time, climate change-related systemic risks have driven policymakers and investors alike towards sustainable investing strategies and finance products. Overall, SRI boasts an illustrious past but seems poised for even greater impactful future success. Below is a brief timeline of SRI.

• Methodist Reverend John Wesley (1730-91) developed tenets for socially responsible investing. His declaration stated not to invest in businesses that be harmful to mankind or animals in general, even not to harm neighbors.
• The modern SRI  find its roots from 1960 onwards. People started protesting against nuclear weapons, and war and supported companies working on environmental issues, green energy, and gender inequality. The first SRI mutual fund named, Pax World Fund, was introduced by Luther Tyson and Jack Corbett. They both worked for United Methodist Church and started assimilating funds for people who did not want to invest in companies that were somehow involved with the Vietnam war. 
• A surge in interest for SRI funds was found during the 1980s. Social issues like Apartheid in South Africa, the nuclear reactor burst in Chernobyl, and the oil spillage in Alaska led people to become more conscious of social and environmental issues. People started taking investing decisions keeping these issues in mind and socially responsible investing (SRI) went to new highs. 
• Later, tropical deforestation, the greenhouse effect and many other issues led to the creation of new SRI mutual funds. By the end of 1995, in the USA alone, there were 55 SRI mutual funds under whom a combined AUM of $12 billion was actively invested in the market.

Today, the change of climate, environmental pollution, and the anti-plastic sentiment are prevalent issues and socially responsible investments in individual and institutional areas have grown manifold and growing day by day.

How does Socially Responsible Investing (SRI) work?

Socially Responsible Investing (SRI) works by trying to generate financial returns while also contributing to positive social and environmental change. SRI funds employ strategies in order to align investments with such values: they screen out companies engaged in undesirable activities, only investing in those meeting specific environmental, social, governance (ESG) criteria, engaging in shareholder advocacy by submitting resolutions or voting proxies that encourage companies to improve policies and practices.

SRI funds engage in impact investing by selecting companies making positive contributions such as renewable energy, affordable housing or microfinance. They engage in community investing by providing capital to nonprofits, small businesses and social enterprises located in underserved areas. Some SRI funds divest from sectors like fossil fuels to show support against climate change issues.

SRI allows investors to align their money and values, though at times it may limit investment options and returns. There is ongoing debate about the overall benefits and trade-offs of socially responsible investing given its potential financial costs. But for many investors social and environmental impact are an integral component of overall returns.

Socially responsible investing takes into account primarily the environmental, social and governance(corporate) or ESG criteria while planning for the investment strategy. Socially responsible investors want to invest money in those companies that comply with environmental regulations, ethically treat their employees and take heed of social responsibility. Many socially responsible investors believe that investing in ethical companies brings higher profits.

Socially responsible investing works in the same way as other investing strategies. But SRI adds another dimension to investment decisions by taking into account social responsibility. Social responsibility investing considers the current political and social trends. Earlier, SRI considered anti-apartheid policies, policies backing the protection of civil rights, anti-war and anti-nuclear agendas before investing. Today socially responsible investing (SRI) focuses on global warming, sustainable solution to environmental issues and ethical corporate practices. 

What are the examples of Socially Responsible Companies?

Let us first look at a hypothetical example of socially responsible investing to understand the same better. Kavya is a socially responsible investor (SRI) who is looking to add new stocks to her investment portfolio. She is committed to investing in companies that align with her values, which include environmental sustainability, social equity, and good governance. Recently, she came across two potential investment opportunities: a tobacco company called SmokeTech and a renewable energy company called SunWind Power.

SmokeTech is a well-established company in the tobacco industry with a strong track record of profitability. Although investing in SmokeTech could potentially bring Kavya significant financial returns, she is aware of the negative health implications associated with tobacco products and the controversial nature of the industry. As a socially responsible investor, Kavya decides to overlook this opportunity despite its potential financial gains.

Instead, Kavya turns her attention to SunWind Power, a company that specializes in developing and implementing solar and wind energy solutions. SunWind Power’s commitment to reducing greenhouse gas emissions and promoting clean energy aligns with Kavya’s values and her focus on environmental responsibility.

Before making her investment decision, Kavya conducts a thorough analysis of SunWind Power. She reviews the company’s annual reports, assesses its financial performance, and examines its environmental, social, and governance (ESG) practices. Now let us look at an a real life scenario.

Socially Responsible Investing (SRI) strategy follows the Economic, Social and Governance (ESG) index to choose the most suitable company for investing. Many companies in India score well in the ESG index.

Globally, many companies are favourites to socially responsible investors. In India too, we find many companies are there which follow the ESG guidelines. These companies are more preferable to investors. Socially responsible investing in India is gaining popularity fast. Presently, the following companies top the list of favoured companies for socially responsible investing.

• Godrej
• Infosys
• Wipro
• Tata Chemicals
• ITC
• Jubilant 
• Grasim
• Vedanta
• Tata Power
• JSW Steel

All these companies show good growth and maintain ESG compliance. A socially responsible investing strategy considers these names while planning for investment. There are other avenues through which SRI is commonly done. There are mutual funds dedicated to investing in top ESG companies.

Some of the top SRI mutual funds are listed below.

• SBI Magnum Global Fund
• Aditya Birla Sunlife Advantage Fund
• Franklin Build India Fund
• ICICI Prudential Value Discovery Fund

What is the effect of Social Investments for profit?

Social investments for profit generate competitive financial returns while making a positive impact on society and the environment. Investors contribute to addressing global challenges such as climate change, inequality, and ethical governance. This approach also encourages businesses to adopt sustainable practices, ultimately driving long-term value creation and fostering a more resilient economy.

SRI or social investing today focuses more on sustainable investing. Sustainable investing brings in more positive effects and brings sustainable growth for long-term investments. In this kind of investing, investment strategies focus on social goals as well as earning profit. 

In the long run, social and environmental issues affect the performance of a company. Investors and consumers prefer SRI funds to invest in good causes. 

1. Earns higher Return On Investment (ROI)
2. Positively impacts social health.
3. Increase social integrity.
4. Creates trust in the company.
5. Increases goodwill of the company that earns higher profit in the long run.

Therefore, companies engaged in manufacturing products like tobacco, and alcohol or encouraging gambling, producing harmful chemical substances or manufacturing non-ecofriendly products are not favored by society. Often we find they have to close different manufacturing units/ offices for not obeying stringent rules laid down by the authorities. Very few investors come forward to invest in those companies. 

On the other hand, SRI favored companies earn good profits due to their involvement in matters of social betterment. In India, many companies comply with the ESG framework. These companies are favoured for sustainable investment. Investors and companies know that future growth will be centered around sustainable and green investment while investing.

Hence, the social investment will be sustainable investment and profit will come from here. Therefore, social investment will bring growth and prosperity. Future growth lies there.

What are the ways to engage in Socially Responsible Investing (SRI)?

SRI focuses on many aspects and looks for investment growth. Within the broad investment horizon, socially responsible investing primarily focuses on the key factors of the environment, social and corporate governance (ESG). 

SRI strategies use the following investment approaches to fulfill investment goals.

1. Community Investing

Community investing is probably the best approach for SRI. Money is invested in companies that are engaged in manufacturing products by people from the local community and using their expertise to manufacture/ produce a particular item. This approach helps the local community economically. The expertise of local people helps to produce unique marketable products. SRI prefers such companies for investment. This approach gives sustainable growth.

Besides human resources, companies use other local natural resources to produce items. One such example is milk. In an area famous for local cow variety for producing milk, a company set up a dairy firm that will use high-quality milk and help local farmers to grow.  

2. Negative Screening

SRI strategy first chooses a number of companies by selecting their annual growth and ROI. Then their ESG compliance is checked. After that, a negative screening procedure is carried out. Negative screening. There should be recycling focused primarily on manufactured items and processes. It is checked whether the companies stepped out of ESG compliance anytime. This negative screening helps to choose the best companies for investment.

3. Positive Investing

The positive investing approach works better after the preliminary screening. The positive investing approach scrutinizes the company processes after choosing a few companies for investing purposes. An investor picks companies of personal choice for sustainable investing. The best companies are picked as per that framework If an investor prefers to invest in eco-friendly companies following the ESG guidelines. The investor chooses to invest in only those companies that follow the green energy guideline.

For example, the investor checks whether all the norms for captive power generation are abided by the company if it generates green energy for its own production through a captive power plant. 

For example, a green and sustainable practice should encompass the following aspects.

• There must be a recycling plant for producing green waste.     
• Water conservation is strictly maintained.
• A captive green power generation unit is functioning well.
• Energy-efficient appliances are in use.
• Follow work ethics.   

 The top companies that have the highest ESG score are also good for SRI investment but these do not follow the green energy guidelines. Hence following the ESG investment do not always fulfill the desire of investors to invest in eco-friendly companies.         

What is the positive impact of Socially Responsible Investing (SRI)?

Socially responsible investing, also known as Impact Investing, leaves a positive impact on society and on companies. SRI focuses on the following criteria of the invested firms.

• Environmental Impact
• Community Development
• Impact on society
• Human rights
• Corporate Governance
• Consumer Protection
• Community relations

The companies that focus on the development of these factors create a positive impact on consumers and attract consumers. This creates demand which leaves a positive financial impact on the companies and increases profitability.

Many best-performing companies follow the above guidelines to earn goodwill in society. Through SRI, both investors and consumers get benefitted. 

 Is engaging in Socially Responsible Investing (SRI) a good idea?

Yes, socially responsible investing (SRI) has a positive correlation with profitability. It creates space for sustainable investment that brings more profit in the long run. SRI investing strategy is a profitable and sustainable strategy. Hence it is a good idea.

What is the negative impact of Socially Responsible Investing (SRI)?

Socially Responsible Investing, although a positive action, sometimes hampers the workings of an organization. It causes the business to follow along a set path and even though it doesn’t burden the planet, it does burden the investors and stakeholders. SRI has the following variable negative impacts.

Focusing aggressively on social impact decrease profitability.

Studies have suggested that Socially Responsible Investment (SRI) funds tend to offer lower returns than traditional funds due to screening out certain companies and sectors that offer profitable opportunities. This sometimes proves to be detrimental in investing decisions. 

Limited choice for investing

The universe of SRI stocks and funds is still limited compared to traditional options. Investors have fewer choices and less diversification. Options are expanding as SRI grows but as of now, it is extremely difficult to build a diverse and yet profitable portfolio by following SRI principles to the core. 

The greenwashing scam

Some companies and funds market themselves as “socially responsible” or “sustainable” to attract investors and customers, even if their practices fall short of fulfilling high standards for ESG/social responsibility. Investors should look beyond labels to find investments that truly align with their personal values. An example of this could be certain electric car companies. They market themselves as green while their manufacturing process continues to harm the environment and the electricity these cars run on is still largely made from coal, especially in India.

SRI investing is complex

Evaluating companies using both ESG criteria and traditional financial metrics can add another layer of complexity for investors. Comparing SRI options may prove challenging and it may take longer to identify companies or funds which meet your social and financial priorities.

SRI investing presents the above-said pitfalls and could prove to be negative when it comes to profitability. But experts believe that there is more scope in the future as more investors and companies become aware of the need to be environmentally friendly. 

Which is better SRI or ESG?

SRI follows the ESG guidelines mostly. There are more scopes that go beyond ESG guidelines. Nowadays, investors prefer to look beyond ESG and focus more on environmental impacts like carbon footprint etc. ESG is a guideline that helps to pick the right companies for socially responsible investing (SRI).

What is the difference between SRI and ESG?

ESG and RSI are the two most favored investment approaches. These two overlap each other in many areas but there are differences too. Let us look into their differences. 

How do stock investors analyze SRI for choosing a stock to invest in? 

Initial considerations for investors when reviewing socially responsible, sustainable and ESG issues related to a company include reviewing its policies, practices and statements regarding social responsibility, sustainability and ESG matters. Focus on concrete goals, actions and progress reporting versus vague promises or green marketing. Key things to look out for may include environmental practices, workplace policies, government standards etc while investing in the stock market.

Examining waste, pollution, energy use and transportation impacts as well as seeking reductions in resource consumption, emissions and waste production as well as sustainable energy initiatives such as renewable sourcing or renewable energy initiatives provide many environmental advantages. Carefully considering employee wages, benefits, health, safety, diversity, inclusion and job satisfaction is critical in creating an ideal work environment. Look out for fair pay standards, strong safety records and programs promoting work-life balance, diversity and equality. Evaluating executive compensation, board diversity, transparency, data security/privacy policies and internal controls to assess governance standards. Consider factors like reasonable pay ratios for executive positions on boards of directors that consist solely of independent board directors as well as audited financials that include secure data policies as well as codes of ethics when selecting governance standards for evaluation.

Examining charitable giving, volunteer programs, local economic and education impacts and product responsibility all help create active engagement with a community. Look for active engagement through donations, partnerships and product safety/quality assurance practices.

Investors should carefully compare company reports and third-party ratings against peers’ opinions and their own priorities to select an investment option with which to align themselves. Companies that practice social responsibility will typically set goals and establish metrics to track progress across environmental, social and governance domains. Although no company is perfect, those that rank highest among SRI stocks demonstrate a genuine and transparent commitment to socially and environmentally conscious policies, decisions and impacts.