Tuesday, June 3, 2008

Investing in vice


Since 2002, at least one counter trend to the SRI movement has been the Vice Fund. This fund seeks to track down rewarding investments in four sectors - alcohol, tobacco, gambling and defense. In a recent interview, co-Portfolio Manager Charles Norton talks about the fund's outlook and strategy:

"We’re focused on four sectors that have exhibited unvarying demand regardless of economic activity and that have key fundamental strengths that help explain why they’ve been around for hundreds of years. The inherent demand of people to smoke, drink and gamble and of nations to arm themselves is clearly strong and long-lasting. The businesses are typically quite profitable, combining low production costs with tremendous pricing power, especially in tobacco and alcohol.

"It’s also important that governments tend to be large beneficiaries of these businesses, through the collection of billions of dollars in tax revenue. That essentially makes the government a partner, with the financial incentive not only to see that the business stays around, but that it also does well."

The existence and success of the Vice Fund ("the Vice Fund has earned an annualized 20.2% over the past five years," according to the above article, "vs. 11.3% for the S&P 500") should give SR investors at least some pause. It is consistent with Alicia Munnell's comments in Pension Fund Politics on the economics of SRI when she observes that "boycotting a stock is unlikely to have any impact on its price, because the demand for a company’s stock is almost perfectly elastic. In other words, a relatively small change in quantity demanded for a stock – which has been shown to be the case with social investing since it accounts for an extremely tiny portion of total assets – does not significantly alter the price of that stock or the success of the targeted company." Indeed, "Boycotting tobacco stocks may result in a temporary fall in the stock price, but as long as some buyers remain, they can swoop in, purchase the stock, and make money."

Now, this is not to say that SRI has zero impact on the market, but it does suggest that investors should be aware of the limitations of screening alone. Even major divestments such as South Africa achieved debatable impacts on targeted companies. If you see screening as less a matter of corporate change and more one of integrity, then it becomes easier to reconcile oneself to the outcome. As mentioned in previous posts on more active engagement, there may be more effective means to shift the marketplace.

No comments: