CHAPTER
10The (Not So Special) Case of Social Investing
I
n this chapter we address two questions concerning socially responsible
investing. First, is the average return of a socially screened equity universe
statistically different from the average return of an unscreened universe?
Second, can one use an expected return model incorporating both value
and growth components to select stocks and create portfolios in the socially
screened and unscreened equity universes such that one can outperform
both universe benchmarks? Guerard (1997a) found no statistically signifi-
cant differences in the mean returns of unscreened and screened equity uni-
verses for the 1987–1994 period. Subsequent analysis by Stone, Guerard,
Gultekin, and Adams (2002) found no statistically significant differences in
the respective universes during the 1983–1998 period. We find little differ-
ence in the predictive power of the composite model to select stocks in both
unscreened and screened equity universes.
The estimated composite model offers the potential for substantial out-
performance of socially screened and unscreened equity universes. There is
a growing literature in academic and professional investment journals
that suggests that socially responsible investing may produce higher risk-
adjusted portfolio returns than those achieved by merely using all available
stocks in the equity universe.^1 Whereas a financial screen is applied to an
investment universe to reduce potential investments, a social screen is a
nonfinancial criterion applied in the investment process that is an expres-
sion of a social, ethical, or religious concern. The application of a social
screen allows the manager to apply these concerns in the investment
process (Kinder 1997). An investor might expect lower returns from com-
panies that damage the natural environment; sell liquor and other alcoholic
products; produce, design, or use nuclear power; engage in gambling; or
are large defense contractors, when one considers the possible corporate
expenses of fines and litigation. Is socially screened investing a dumb idea,