Should funds invest in socially responsible investments during downturns? : Financial and legal implications of the fund manager's dilemma

Purpose – The purpose of this paper is to investigate whether socially responsible investment (SRI) is less sensitive to market downturns than conventional investments; the legal implications for fund managers and trustees; and possible legislative reforms to allow conventional funds more scope to invest in SRI. Design/methodology/approach – The paper uses the market model to estimate betas over the past 15 years for SRI funds and conventional investment funds during economic downturns, as distinct from during more “normal” (non‐recessionary) economic times. Findings – The beta risk of SRI, both in Australia and internationally, increases more than that of conventional investment during economic downturns. Traditional fund managers and trustees in Australia are therefore likely to breach their fiduciary duties if they go long – or remain long – in SRI funds during economic downturns, unless relevant legislation is reformed. Research limitations/implications – The methodology assumes that alpha and beta in the market model are constant. Second, it categorises the state of the market into “normal” economic conditions and downturns using dummy variables. More sophisticated techniques could be used in future research. Practical implications – The current law would prevent conventional funds from investing in SRI. If SRI is viewed as socially desirable, useful legislative reforms could include explicitly overriding the common law to allow conventional funds to invest in SRI; introducing a 150 percent tax deduction or investment allowance for SRI; and allowing SRI sub‐funds to obtain deductible gift recipient status from the Australian Tax Office and other taxation authorities. Originality/value – The accurate assessment of risk in SRIs is an area which, despite its serious legal implications, is yet to be subjected to rigorous empirical investigation.