How to Build a Sustainable Portfolio

6 min read

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What is a Sustainable Portfolio?

If a company is sustainable, that means it can operate for a long time without causing problems that will come back to haunt it later. A sustainable portfolio is an investment portfolio that is composed of these long term-oriented companies.

The basic idea behind sustainability is: What goes around, comes around. Consider a coal burning power plant. When it burns coal to produce energy it is polluting the air and contributing to climate change. This negative impact could spur people to try and stop the coal plant from burning coal – i.e. it could be forced to change its operations, or even shut down. The coal plant can therefore be considered unsustainable and likely not make it into a sustainable portfolio. Furthermore, even if people didn’t stop the coal plant from harming the environment, if the coal plant harmed the planet enough, the coal plant (and everything else on the planet) would be harmed in turn, putting a natural stop to the coal plant’s activities, as depicted in the post-apocalyptic cartoon below.

caricature

This may come as a surprise, but the concept of sustainability can also be applied to issues that are not strictly environmental. Consider a tobacco company that is causing many people to get sick from smoking cigarettes. That tobacco company could be considered unsustainable because the people who are getting sick from using the tobacco company’s products (or their friends and loved ones) could eventually push to stop the tobacco company from selling toxic products or close its doors for good. That company could therefore also be considered unsustainable. Would you want to include it in a sustainable portfolio?

If you hurt the planet, the people living on that planet just might want to stop you. Likewise, if you hurt people they may also try to get you to stop. On the other hand, by treating the planet and the people living on it well, you can start a positive sustainability feedback loop, a virtuous cycle of good treatment that can benefit you, humanity, and the planet. In other words, what goes around comes around. But what does that mean really? How can you create an investment portfolio centered around the idea of sustainability?

Sustainability and Human Impact

If you want to create a sustainable portfolio, you must first fully define sustainability. There is some variation in how people like to define sustainability. But they all do seem to start with the idea of “what goes around comes around.” This is a critical ethical concept to apply when thinking about sustainability. Do things that make the planet a good place to live so that you can continue living on it. Be socially conscious; do things that will make others better off so that they will want to reciprocate and make you better off in turn. Don’t do things that hurt people so that they will want to make you worse off in turn, or at a minimum, stop you.

There is a simple story that helps to illustrate how sustainability and the idea of what goes around comes around can apply to companies and building a sustainable portfolio: There was once a medieval king who was exceptionally impulsive and cruel when interacting with those under his rule. He would often torture people just for looking at him funny. He was able to reign and keep his noblemen and peasants in check for some time, because they feared him. However, as time went on, some of the smarter peasants chose to simply leave the land rather than live under this cruel king, and the country began to suffer. The noblemen trying in good faith to help the king run the country were treated so poorly by the king to the point that one day, when the remaining peasants had had enough, the noblemen led them to revolution to overthrow the king.

You can think of each company as a kind of sovereign king, but instead of having noblemen, and peasants to serve, it has customers, employees, and members of society in general that it interacts with, not to mention the investors themselves. When the company hurts the people that it interacts with, in the end, the company will most likely suffer in turn. The company’s customers could choose to purchase their goods elsewhere. Talented employees could seek work elsewhere. Members of society could lobby their government to stop the company from hurting them. Finally, investors identifying this negative trend may choose to invest their money elsewhere.

Therefore, a sustainable portfolio is composed of companies that treat people well. If you believe in the thesis of sustainability, those companies that have a sustained positive impact on humanity are the ones that are most likely to benefit from the virtuous cycle of what goes around comes around and be successful in the long term.

Sustainable Portfolio Management

To apply sustainability to the question of which companies you should include in your investment portfolio you need to measure each company’s human impact. That way you can invest more in the companies that are doing more good than harm (and not at all in those companies doing more harm than good). But this is hard. How much does it matter that a company is providing electricity compared with the fact that its power plant is polluting the air? How much does it matter than a company is discriminating against its employees if it is helping to suck carbon dioxide out of the atmosphere? We can provide decent answers to these questions by trying to quantify the human impact of companies.

One way to quantify human suffering and human benefit is to look at the economic impact of companies on humanity. We can use dollars to compare and add up dollars of value for investors, employees, customers, and of course societal value to come up with a single dollar value that represents the company’s value to humanity, or its Humankind Value.

Ranking companies using their Humankind Values can help create a sustainable investment portfolio. If a company is producing a lot of value for its customers, employees and investors, but is destroying many times that value for society - maybe its factory is dumping sewage into the drinking water of a town and contributing to millions of dollars of medical bills - then it has a negative Humankind Value, and arguably has no place in a sustainable portfolio. If a company has a small issue with how it advertises its product to its customers, but on the whole is producing much more positive value for employees, investors and society, then the company’s Humankind Value will be taken down a peg because of how it is treating its customers, but it can still be included in a sustainable portfolio because, on the whole, it is doing good things for humanity.

Let’s go through a simple negative example to better understand how this works: Exxon Mobile.  Exxon is primarily an oil and gas company. It is very profitable for its investors, treats its employees reasonably well on the whole, and its customers ultimately benefit from their products and services. The energy that it produces helps to grow crops and power hospitals. However when it comes to how it treats society, Exxon is one of the biggest contributors to air pollution and climate change, among other negative impacts. By placing a dollar value on the human lives lost due to air pollution, and the estimated economic costs of climate change, we can make these deaths and human damage comparable to the positive economic value that Exxon is creating. The value here for society is so negative according to Humankind Value researchers, that it is larger than the good – the economic value and the other positive impacts that Exxon has. It therefore cannot be included in a sustainable investment portfolio. Check out this infographic breaking down the negative (shown in gray) and the positive (shown in green) value that Exxon is providing to humanity:

If a company is creating more damage than benefit for humanity, how long can it remain profitable?

As you may have already guessed, this quantitative focus on sustainability will punish companies that are hurting people, especially if they are causing serious injury or death. Companies that sell toxic products or contribute to air pollution are at a major disadvantage here. On the contrary, a quantitative sustainability focus tends to favor companies that are helping to save lives, by for example, providing food access, water access, or healthcare access, or otherwise providing a large amount of positive economic value to humanity. This is all for the good because, going back to our example with the medieval king, we ultimately want to invest in companies that work well with the people around them and treat them well, so that they will be successful in the long term. Creating and managing a sustainable portfolio is kind of like placing a bet on karma.

Managing Your Own Sustainable Investment Portfolio

You can certainly spend the time doing this research and creating your own sustainable portfolio. But this can be quite time consuming. If you’d like some help putting together a sustainable investment portfolio and want to join a community of like-minded investors working toward the same goal, you can partner with us at Humankind Investments to make it happen. We do this quantitative sustainability research into human impact and we also work to reach out to companies on your behalf to try and encourage them to improve on the value that they provide humanity. We do this like it’s our job (because it is!). As an investment firm focused on sustainable portfolio management, that’s pretty much all we do all day.

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