5 min read

Who is doing your moral due diligence?

When you go out of your way to buy an apple with an organic logo you take two shortcuts:

  1. I prefer organic to non-organic because it helps the big picture, and
  2. I know that the label means it’s organic ‘enough’ in my sense of organic.

But on both these counts you’re accepting at face value a few heuristics that other people have written for you. Firstly - what even is organic? Secondly, is it really better for you or the bigger picture? Finally, who checks that the label matches the product?

We’ve commodified broad moral choices into literal consumer goods and weaponized them. Meat eaters face an expected moral attack from more than just crusty vegans - the enemy of old. Now, institutions and billion-dollar companies have packed their own Reformation Thesis of $BYND-flavored moral panic into convenient tablets of moral anti-meat simplicity. Meat eaters can themselves respond by leaning on reliable and appealing aphorisms such as “it’s regenerative” or even just by drawing on the dimly-lit, low-effort Nuremberg defense of “I like the taste”.

Confronting the reality of a moral position is time consuming and it’s hard. In 2019, during a tour of town halls across France, President Macron faced a morally outraged young audience member who described Macron’s environmental credentials as “basically hashtags”. Macron’s response:

We’ve decided to close all our remaining coal-fired plants. There are 5. Why don’t you come along with me to go chat with the employees? There are thousands of people on payroll in Saint Avold or in Havre or anywhere else. We have to go and tell them, “We believe in the ecological transition, we are serious about reducing our emissions - so, lads, bad luck, we’re closing the factory”. This is it - this is the hands-on work we have to do now. It’s real hands-on work now. We’re going through it, we have to do it and I won’t let you say we aren’t doing anything - it’s not true. But it’s hard. I’d rather you helped the government do it or explain it [rather than wallow in indignation].

When gazing into the restful deep eyes of an alpine cow reared with humble respect and plenty of sunshine and flowers, it’s hard to make the moral case that these animals truly lead an unhappy existence full of suffering. As much as well-reared beef can be a transcendent taste experience, breathing in the environment of a slaughterhouse should quickly shake off the notion that this is somehow ‘worth it’ to anyone who isn’t essentially a psychopath.

So when taking one of these prepackaged moral tablets, it’s fair to ask: who exactly made this?
Money is a great moral purifier. Investing in the real world happens exactly as you’d imagine: fat men in penguin suits and top hats chew on cigars at the country club before retiring to a pool of gold coins. Ethics-be-damned, they’ll invest in handcuff factories for the modern slavery industry if it would guarantee them an adequate risk-adjusted return. There is this idea that investing in sustainable funds (or ESG, for Environmental, Social & Governance) is a way to nudge stodgy old fat cats onto the side of the tree huggers while still chewing the same cigars. It almost feels a bit naive, something like trying to hoodwink the Monopoly man into doing good by accident.

There are two mutually exclusive worldviews underpinning this effort.

1. Moral simplicity: You can have it both ways

The people selling moral due diligence tablets promise you outperformance (alpha) on your real-world portfolio if you invest in ESG funds. As a side-benefit you will also see outperformance in brownie points for investing in companies that are trying to do good. Prof. Theo Vermaelen from INSEAD calls these sources of outperformance Alpha on Earth and Alpha in Heaven. Most ESG marketing implicitly suggests this.

Research has shown that the use of ESG in security selection leads to better-informed investment decisions, and that sustainability funds can perform better than non-sustainable ones, partly because of better risk management over contentious issues. Companies with a lower carbon footprint, for example, would face lower regulatory or societal risk than a polluter, and so its shares should be less volatile over time.
Source: Robeco

2. Hard Work: You can’t have it both ways

The intriguing (and more compelling) alternative is the one where ESG investments earn a negative alpha on Earth.

Indeed, finance theory predicts that high risk stocks earn higher expected returns than low risk stocks because investors don’t like risk. With the same logic, if the investors who set stock prices stock prices like social responsibility, they will, ceteris paribus, require a lower rate of return on socially responsible investments.
Source: Socially Responsible Investments: alpha on earth or alpha in heaven?

The common denominator across both scenarios is a cottage industry of fund managers creating new investment products branded as ESG and consultants busy looking to create the winning videotape format for branding ESG investments. This act of outsourcing confers responsibility over double checking the ‘work’ as it were to someone else. Not unlike taking your moral cues from the back of a cereal box outsources your moral due diligence to the whims and interests of a multibillion dollar corporation. The difference is how investors react to this information and how much work they do to process it.
Nvidia, a fabless computer component design and manufacturing company often rates very highly on ESG rating lists. But it conveniently pushes a lot of its semiconductor manufacturing, an intense electricity and water consuming process, [2021 Annual Report, p9] to third party chip plant behemoths, some of which are in countries with autocratic regimes. How is this morally superior to any other company that makes its own chips? P&G, another ESG fan-favorite, recently faced activist investors who tied it to third-party companies busy razing Indonesian forests to the ground. But if you use Ariel washing tablets maybe you appreciate the convenience of an innovative packaging format, so on balance worth it?

Perversely, if a Morally Good investor discovered an investment was socially irresponsible, they would sell their shares… to someone who isn’t as bothered about social responsibility. A truly Morally Good investor should value alpha in Heaven as much as or more than alpha on Earth and should stick to their investments and try and force change.

Note that in this case the optimal alpha-on-earth strategy should be to invest in socially irresponsible companies and engage with the management trying to make them more socially responsible. For example, invest in a coal producer a convince them to diversify into wind farms.
Source: Socially Responsible Investments: alpha on earth or alpha in heaven?

This is “hard, hands-on work” as Macron described. The hard work of a meat-eater that says they like the taste of meat and having to kill the cow with their own hands. The hard work of looking in the mirror and truly asking “am I buying an organic apple for me or for people who can see it happening?”. The hard work of going to a coal plant and telling thousands of people point blank that you’ve had a moral epiphany and therefore their jobs no longer exist.

Of course it’s time consuming and unrealistic to expect someone to do hard work on every single moral dilemma they cross. But it’s not unrealistic to ask for a timeout to ask “if it’s not me, then who is doing my moral due diligence?”.