Markets

Nir Kaissar is a Bloomberg Gadfly columnist covering the markets. He is the founder of Unison Advisors, an asset management firm. He has worked as a lawyer at Sullivan & Cromwell and a consultant at Ernst & Young.

Silicon Valley venture capital is no place for socially responsible investors.

Or at least, it increasingly looks that way as accusations of sexual harassment against the industry continue to pile up. The New York Times reported last week that more than two dozen women in technology startups contend that they’ve been sexually harassed, in some cases by prominent venture capitalists who have acknowledged the harassment.

The growing number of accusations suggests that sexual harassment may be “pervasive and ingrained,” as the Times put it, in the culture of tech investing. In addition to the harassment itself, a common thread running through the accusations is that venture firms cavalierly dismissed them.  

Callousness, of course, wouldn’t be so easy if investors held those venture firms to a higher standard. Which raises a thorny question for socially responsible investors: Does Silicon Valley venture capital make the cut?   

There are various flavors of socially responsible investing, each with its own moniker. For example, there’s environmental, social and governance, or ESG, investing; sustainable or green investing; and ethical investing. But whatever the label, the fundamental idea is the same: Allocate money to firms that behave and away from those that don’t.

The movement is gaining adherents. According to Morningstar, $93 billion was invested in socially responsible funds and the like in 2008. That number swelled to $208 billion by May of this year. Recent flows have been particularly strong. Investors plowed a record $5.8 billion into socially responsible funds in 2016 and an additional $2.9 billion this year through May. 

Voting Dollars
Ethical investing is gaining adherents
Source: Morningstar
Note: Includes religious, ESG, environmental and Sharia compliant funds; numbers for 2017 through May.

The growing popularity of socially responsible investing isn’t surprising considering that it’s often sold to investors as a free lunch. Proponents contend that investors can invest ethically and still capture the returns of the broader market.

The evidence is limited but so far appears to support that proposition. The MSCI World ESG Leaders Index -- a collection of companies in developed markets that have high ESG ratings -- returned 4.3 percent annually from October 2007 to June 2017, including dividends, while the MSCI World Index returned 4.4 percent. The MSCI World SRI Index managed to modestly beat the market, returning 4.8 percent.

Free Lunch
Over the last decade, socially responsible investors have kept pace with the broader market
Source: MSCI
Note: Indexed to 100.

But the notion that socially responsible investors should expect to keep pace with -- or even beat -- the broader market over longer periods seems illogical. After all, the point of socially responsible investing is to make money more scarce for companies that misbehave, much the way that financing is harder to obtain for small or struggling companies. Those companies must hold out the promise of higher returns to attract investors. It’s reasonable to assume that social undesirables will have to do the same.

That conforms with the experience of Norway’s sovereign wealth fund, a pioneer in ethical investing. According to the fund’s manager, Norges Bank Investment Management, the fund's stocks have trailed the FTSE Global All Cap Index by 1.1 percentage points annually over the last 11 years.

While it’s too soon to say whether or how much investors will ultimately pay for socially responsible investing in public markets, it’s clear that the stakes are higher in venture capital. For one thing, there are thousands of publicly traded stocks, so it’s not difficult to assemble a portfolio of socially responsible stocks. But venture is much smaller. Cambridge Associates’ US Venture Capital Index includes just 46 venture funds as of 2015 -- the latest year for which numbers are available.

And nothing comes close to the returns from venture capital. The Venture Capital Index returned 18.4 percent annually over the last 30 years through 2016, while the S&P 500 and the MSCI World Index returned 10.2 percent and 7.9 percent, respectively.

All Alone
Nothing comes close to the returns from venture
Sources: Cambridge Associates, S&P, MSCI

If accusations of sexual harassment continue to pervade Silicon Valley, then socially responsible investors will have to decide whether to sidestep a large -- and perhaps the most promising -- portion of an already limited number of venture funds. We may soon find out how much they are willing to pay for a clear conscience.  

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Nir Kaissar in Washington at nkaissar1@bloomberg.net

To contact the editor responsible for this story:
Daniel Niemi at dniemi1@bloomberg.net