Countries across the world are increasingly working towards bringing in best practices in corporate governance. Some think corporate governance is a fad.
The question is: Why do investors, including pension funds, buy shares of companies that practice good corporate governance?
Consider this. Suppose you decide to buy a watch. If you are a rational investor, you should buy a cheap one. Why?
Your objective in buying a watch is to see the time. A cheap watch can serve the purpose. So, why buy an expensive one?
But that begs for the question: Why do fashion boutiques sell expensive watches designed by Cartier and Rolex?
The reason is that watch provides more than utilitarian value. That is, it can also be a medium of expression. Some may buy for personal satisfaction.
Others may wear Rolex as a status symbol. Behavioural psychologists' call this “value-expressive” feature. This feature accounts for the difference between a cheap watch and an expensive one.
Value-expressive feature also applies to investment decisions — when investors buy shares of companies that follow good business and social practices. Such investment is called Socially Responsible Investment (SRI).
Examples include buying shares of companies that create less carbon footprint or ones that do not manufacture tobacco products or do not test their products on animals.
What's in it for investors
But is SRI beneficial to investors? If an investor's objective is to optimise his/her returns, one should invest in companies that are doing financially well and not necessarily in those that are doing good to the society.
Evidence shows that all stocks typically move up in an uptrending market. And the ones that move up most are typically the ones that do not fit into an SRI portfolio!
But when the market is on a downtrend, stocks in the SRI portfolio could lose less than other stocks.
Nevertheless, value-expressive feature has its costs. That is, perhaps, why SRI is not adopted by many investors. It is also the reason why many do not have a Rolex or a Rolls Royce.(The author is the founder of Navera Consulting. He can be reached email@example.com)