JMF  Vol.3 No.1 A , March 2013
Ethical Investment and Portfolio Theory: Using Factor Analysis to Select a Portfolio
Abstract: Ethical investments are a now a considerable sector in the investment market, with the Financial Times running the headline “Green and ethical investment comes of age” (Shepherd, [1]). Claudia Quiroz (lead fund manager for Cheviot Climate Assets Fund) predicts a strong future for ethical investment, with sustainable investment becoming a growing theme (Hoskin [2]). Much previous research in the “ethical investment” field divides investments into two categories: acceptable or unacceptable. This paper builds on the work of Barracchini and Addessi [3], in viewing how “ethical” an investment is to be a different dimension—each investment is seen as being on a continuum, from “least ethical” to “most ethical”. This paper takes the work of Barracchini and Addessi [3] from a theoretical construct to an approach which can be applied by practitioners. In order to make a workable method, this paper uses conventional portfolio analysis (which focus on risk and return), combined with principal components analysis in order to minimize the risk of a portfolio. It adopts a specific functional form for the saver’s utility function, to assess which assets appears most desirable using that person’s values.  
Cite this paper: J. Simister and R. Whittle, "Ethical Investment and Portfolio Theory: Using Factor Analysis to Select a Portfolio," Journal of Mathematical Finance, Vol. 3 No. 1, 2013, pp. 145-152. doi: 10.4236/jmf.2013.31A014.

[1]   P. Shepherd, “Green and Ethical Investment Comes of Age,” Financial Times, 2011.

[2]   M. Hoskin, “Interview with Claudia Quiroz from Cheviot,” Worldwise Investor, 2012.

[3]   C. Barracchini and M. E. Addessi, “Ethical Portfolio Theory: A New Course,” Journal of Management and Sustainability, Vol. 2, No. 2, 2012, pp. 35-42. doi:10.5539/jms.v2n2p35

[4]   M. Wimmer, “ESG-Persistence in Socially Responsible Mutual Funds”, Journal of Management and Sustainability, Vol. 3, No. 1, 2013, pp. 9-15.

[5]   R. Havemann and P. Webster, “Does Ethical Investment Pay? EIRIS Research and Other Studies of Ethical Investment and Financial Performance,” EIRIS, 1999.

[6]   M. Arosio, “Issues for Responsible Investors: Impact Investing in Emerging Markets,” Responsible research, 2011.

[7]   BMAC, “The Nestlé Boycott,” Baby Milk Action Coalition, 2013.

[8]   The Mercer Carbon Trust, “A Climate for Change: a Trustee’s Guide to Understanding and Addressing Climate Risk,” The Carbon Trust, London, 2005.

[9]   D. Orrell, “Irrational Economic Man,” World Finance, 2013.

[10]   European Commission, “Making a Difference in the World: Europeans and the Future of Development Aid,” 2011.

[11]   European Commission, “Public Awareness and Acceptance of CO2 Capture and Storage,” 2011.

[12]   M. Friedman, “The Social Responsibility of Business is to Increase Its Profits,” The New York Times Magazine, 1970.

[13]   C. Sampford and V. Berry, “Shareholder Values, not Shareholder Value: The Role of ‘Ethical Funds’ and ‘Ethical Entrepreneurs’ in Connecting Shareholders’ Values with Their Investments,” Griffith Law Review, Vol. 13, No. 1, 2004, pp. 115-123.

[14]   B. J. Richardson, “Environmental Regulation through Financial Organisations: Comparative Perspectives on the Industrialised Nations,” Kluwer Law International, The Hague, 2002.

[15]   A. B. Carroll, “The Pyramid of Corporate Social Responsibility: Toward the Moral Management of Organizational Stakeholders,” Business Horizons, Vol. 34, No. 4, 1991, pp. 39-48. doi:10.1016/0007-6813(91)90005-G

[16]   E. Ballestero, M. Bravo, B. Pérez-Gladish, M. Are-nasParra and D. Plà-Santamaria, “Socially Responsible Investment: A Multicriteria Approach to Portfolio Selection Combining Ethical and Financial Objectives,” European Journal of Operational Research, Vol. 216, No. 2, 2012, pp. 487-494. doi:10.1016/j.ejor.2011.07.011

[17]   C. Barracchini, “An Ethical Investments Evaluation for Portfolio Selection,” Electronic Journal of Business Ethics and Organization Studies, Vol. 12, No. 2, 2007.

[18]   Ethical Consumer Research Association, “Researcher Verified Ethiscores,” 2013.

[19]   FAME, “UK and Irish Financial Company Information and Business Intelligence,” FAME Database A, 2013.

[20]   R. S. Demsetz and P. E. Strahan, “Diversification, Size, and Risk at Bank Holding Companies,” Journal of Money, Credit and Banking, Vol. 29, No. 3, 1997, pp. 300-313. doi:10.2307/2953695

[21]   J.-L. Jeng and Q. W. Liu, “Do Idiosyncratic Risks in Multi-Factor Asset Pricing Models Really Contain a Hidden Non-Diversifiable Factor? A Diagnostic Testing Approach,” Journal of Mathematical Finance, Vol. 2, No. 3, 2012, pp. 251-263. doi:10.4236/jmf.2012.23028

[22]   S. Pafka and I. Kondor, “Estimated Correlation Matrices and Portfolio Optimization,” Physica A, Vol. 343, 2004, pp. 623-634. doi:10.1016/j.physa.2004.05.079

[23]   S. A. Ross, R. W. Westerfield and J. F. Jaffe, “Corporate Finance,” Irwin, 1988.