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Ethical Screening in Modern Financial Markets: The Conflicting Claims Underlying Socially Responsible Investment

Michael S. Knoll
The Business Lawyer
Vol. 57, No. 2 (February 2002), pp. 681-726
Published by: American Bar Association
Stable URL: http://www.jstor.org/stable/40688043
Page Count: 46
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Since scans are not currently available to screen readers, please contact JSTOR User Support for access. We'll provide a PDF copy for your screen reader.
Ethical Screening in Modern Financial Markets: The Conflicting Claims Underlying Socially Responsible Investment
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Abstract

In this Article, the author documents how socially responsible investment (SRI), the practice of making investment decisions using both social and financial criteria, has grown from a fringe movement practiced by a relatively small number of isolated investors into a major investment phenomenon that has become part of the financial mainstream. The author also documents how the SRI community sought to encourage that growth by convincing investors that they can make a difference in the world without financial sacrifice by screening their investments. That message, which is succinctly stated in the often-repeated slogan "doing well by doing good," embodies the two principal claims commonly made by SRI's modern adherents. These claims are that managing money according to ethical criteria can be as profitable and prudent as investing strictly for financial gain, and that SRI can directly change corporate behavior by drawing funds away from disapproved activities toward approved activities. This Article draws on modern financial theory and recent empirical research in order to evaluate these claims. It shows that, as a matter of finance theory, although either of the principal claims made by SRI's proponents might be true, the two claims cannot simultaneously both be true because each claim implies the falsity of the other.The author also surveys recent empirical work in finance in order to assess the validity of each claim. Based on this survey, the author concludes that screening is likely to entail no more than a minimal financial sacrifice for investors who do not substantially increase their costs by screening and do not narrow their universe of investments by so much as to substantially hamper diversification. On the other hand, the author concludes that there is little, if any, evidence that ethical screening has had a significant direct impact on targeted firms.

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