You’ve had the feeling before. You’re certainly against oil spills, but an investment in BP (NYSE: BP) just after the Deepwater Horizon oil spill would’ve returned a healthy 39% to date…
And the stock’s had its gyrations, but an investment in Rick’s Cabaret (Nasdaq: RICK) has more than doubled since the financial crisis. Even so, being a shareholder might not make you feel too upstanding…
Or despite reservations about gambling, it’s hard to resist returns like Las Vegas Sands (NYSE: LVS), which is up 595% since 2009. At least part of that is due to questionable dealings in its Macau casinos.
The trouble is that most studies have backed up the fact that you have to get your hands dirty to make money. From cigarettes to casinos, vice pays. At least one study shows that “vice” stocks return 19% a year.
It’s long been accepted as a given that companies with a bent for social responsibility underperform those that don’t. And it makes sense. If a company goes out of its way to reduce greenhouse emissions, the extra spending will reduce profit margins. A company that strives to treat workers fairly will spend more on labor costs. Choosing to deal with environmentally friendly suppliers will drive up material costs.
Over the last five years, socially responsible funds haven’t shown a significantly different return than the broader indexes or vice funds.
But a new study from Harvard Business School shows that when you look at the long term, socially responsible stocks may actually outperform their more ruthless competitors.
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The study measures “sustainability” by counting the number of specific corporate policies that deal with treating employees and customers fairly, minimizing environmental impact and benefiting the community.
By comparing 90 high-sustainability companies with 90 low-sustainability – but otherwise similar – companies, the authors found that the high sustainability stocks outperformed the low by 4.8% per year.
That’s a big difference. Over 18 years, $1 invested in the high-sustainability companies turned into $22.60, while $1 invested in the low-sustainability companies returned $15.40.
So should you move your assets into socially responsible funds?
Although the study does show that socially responsible stocks generate have a quality that generates good returns, there’s something deeper at play.
When a company can institute socially responsible policies, it signals that management is able to focus on long-term growth rather than short-term profit taking.
Often times, this long-term focus leads to better relationships with suppliers, happier and more productive workers, and loyal, satisfied customers. Over time, these benefits can compensate for the loss of immediate profits.
So when the authors studied the transcripts of the companies’ conference calls, they found a higher number of references to long-term time periods for the high-sustainability companies when compared to companies of low sustainability.
What’s more, the study also showed that the high-sustainability firms didn’t just have higher stocks returns, they also outperformed financially on almost all measures, from return on equity to book value.
In other words, responsible activity was rewarded financially.
An appreciation of social issues indicates a management team with character traits that help them act in the interest of something other than their own salary. Yes, sometimes that interest is environmental or social, but just as often it’s the long-term interest of shareholders.
Helping the environment or providing better benefits doesn’t actually help these stocks. But having decision makers with the conviction to do the right thing means they’re more likely to provide long-term returns to shareholders.
Bottom line: What this study highlights is the importance of management and corporate governance in providing real returns. If management focuses only on the next quarterly earnings number – as many do – the company will suffer. And if you focus only on the next quarterly earnings report, your retirement account will suffer.
If you’re looking to judge management’s character, it’s wise to see if they have a sense of duty, even if it’s only for your own selfish reasons.
Ahead of the tape,