Economically Reprehensible Behavior, or Benefits and Risks of Morality? (1 of 2)

I. Introduction

Whether it
is through mutual funds, pensions or direct purchases of shares in
companies, some investors are taking more than profit maximization into
consideration when investing. These investors seek to promote
individual social or moral preferences by choosing investments based on
the products and procedures of an investment, rather than solely on
accounting profitability. Essentially, these investors are looking to
use their money for both moral and monetary profit. Of course, when it
comes to capital markets, the customer, i.e. the investor, is still the
boss. Thus understanding this trend is not merely an academic exercise
but perhaps a lesson to those seeking funding.

II. Analysis

moral considerations raise issues of manager responsibility, in light
of the traditional role of corporate and fund managers. The proposition
that corporate directors and fund managers have a duty to their
trustors, shareholders and investors, respectively, to maximize profits
is so widely accepted it needs no citation. However, because moral
considerations do enter the fray for these particular investors,
certain legal issues arise which are not yet so widely accepted. These
issues include disclosure of information necessary for morally
responsible investors (MRI’s) to discriminate between investment
opportunities based on personal moral preferences, the effect of
socially responsible investing on the disconnect between management and
ownership in publicly traded companies, and a new twist on shareholder
derivative actions.

This article will run across two publication cycles. To address
these issues, this article first describes MRI and then identifies the
possibly contradictory assumptions underlying the tradition role of
managers (corporate directors and trust managers).

III. Moving Forward

The second article in this series will first identify points of
reconciliation between the seemingly contradictory ideas of maximizing
profits and maximizing the social good. Finally, it will point out
possible additional benefits and drawbacks of morally responsible
investing (MRI) as compared to the traditional model.

I. Morally responsible investing may challenge assumptions underlying the traditional mode of investing.

A. Morally responsible investing requires managers to consider moral
preferences and social benefits along with maximizing profits.

Moral preference and social benefit mean different things to
different investors. MRI can be generally defined as investing that
permits investors to grow financially while still adhering to their
personal social or moral preferences. [1]

Despite the variation in personal preferences, MRI is one of the
fastest growing sectors, with more than $2 trillion of assets being
managed as of 2005. [2] As of mid-2006, this amount was up to 2.9 trillion, a growth of nearly 33% within an 18 month period. [3] This translates to 10% of all managed funds. [4] In the UK, as of last year roughly 470,000 investors had chosen to participate in socially responsible funds. [5] This translated into $12 billion in the UK, up from $1.7 million in 1995. [6]

Some MRI is faith based. For example, Ave Maria funds follow the
precepts of Catholic canonical law to avoid investing in companies that
facilitate abortions, pornography, contraception, or sweatshops, to
name a few. [7] Another example is Amana Growth, a
fund that follows Islamic principles to avoid investing in companies
that derive more than minimal revenues from alcohol, tobacco,
pornography, gambling, or weapons industries. [8]

Non-faith based moral initiatives are also prevalent. Environmental
preferential investing is a large sector of MRI. Those companies that
follow safer environmental procedures and policies find themselves
benefiting from attracting the capital of environmentally conscience
investors. In fact, NGO’s like the Blacksmith Institute highlight the
returns from investing in companies that specialize in performing
environmental cleanup projects in the world’s most polluted cities. [9]
Other MRI funds include those that oppose corporate delusion of
cultural diversity. Brit Zak Goldsmith opened a hedge fund to take down
Coca-Cola for "undermining real human diversity" by betting on the drop
of Coca-Cola’s share price. [10] Thus, moral preference can run the gambit.

B. Economics theory states that moral considerations are not
necessarily a manager’s concern and maximizing profit is the basis for
all decision making.

In both the corporate director-shareholder relationship and fund
trustee-trustor relationship, a duty of loyalty exists which obligates
the manager to maximize the benefit to the investor. Maximizing profits
for shareholders is the widely agreed upon benefit a corporate director
must convey to his shareholders. Similarly, the duty of loyalty, the
prudent-investor rule and similar doctrines which govern investment
funds generally forbid social investing by the fund manager. [11] Thus,
in the traditional economic understanding of the duty of the fiduciary,
he can only consider economic criteria to maximize returns and increase
profits. [12] Although economic considerations do not
necessarily contradict the conclusions reached by moral considerations,
that they may should not have bearing on the decision to invest.

To be fair, arguably in capitalism profit maximization is MRI. If we
accept this to be true, the considerations in traditional investing and
MRI become one and the same. Thus this analysis becomes moot, and so
this argument is not addressed here.

The next article in this series will look to compare MRI to the
traditional mode and to hypothesize the benefits and drawbacks of MRI.

[1] Thomas M. Kostigen, Hedge Funds Banking on Social and Moral Issues, The Washington Post, Dec. 25, 2004, available at

[2] Id.

[3] Weapons and Dice and All Things Nice, Money Management, June 1, 2006, 2006 WLNR 8631864.

[4] Id.

[5] Id.

[6] Id.

[7] Kimberly Lankford, Funds Get Religion, Kiplinger’s Personal Finance Magazine, available at, (Dec. 2005).

[8] Id.

[9] Brian Walsh, How the List Was Chosen, Time Magazine, available at,28804,1661031_1661047_1661015,00.html, (2007).

[10] Hegde Funds Banking on Social and Moral Issues, supra note 1.

[11] John J. Langbein and Richard A. Posner, Social Investing and the Laws of Trust, 79 Mich. L. Rev. 72, 76 (1980) (citing Rst. 2d of Trusts §2; ERISA 404(a)(1) (1976)).

[12] Edward S. Adams and Karl D. Knutsen, A Charitable Corporate
Giving Justification for the Socially Responsible Investment of Pension
Funds: A Populist Argument for the Public Use of Private Health,
80 Iowa L. Rev. 211, 213 (1995).