THE FINANCIAL IMPLICATIONS OF DIVESTMENT

Contents: RISK • QUALITY • LIQUIDITY • FINANCIAL PERFORMANCE • DIVESTMENT LAWS • CONCLUSIONS AND RECOMMENDATIONS • The report says reports are arriving daily from Johannesburg, Soweto, Cape Town, of demonstrations, riots, and killings of black demonstrators by the police; after decades of protest against the racist socio-economic system of Apartheid, that system is now being profoundly challenged. The report says any argument tor divestiture of American capital from South Africa must begin with the financial one; it is simply not prudent to invest large alms of money in such a destabil1zed pol1tical situation; the risk of losing one's investment increases with each day. The report says the rationale for an American company to continue its investments in such a destabilized market is either a risk/reward decision that the Potential return on such an investment is worth the extraordinary risk, or top level management simply misreads the volatility of the investment. The report says an institutional investment fund should avoid such a company in either case; a portfolio manager is primarily concerned with the safety of the assets under his control, and the risk taken by corporate management, by investing in South Africa, is simply too great for the typical institutional fund. The report says the goal of this study is to examine the prudence of divestment from American companies doing business in South Africa for major institutional stock portfolios. The report says the study will analyze the various types of risk associated with the divestment question; it will examine the financial performance, during the last five years, of South Africa invested securities (SAI) versus South Africa tree (SAF) securities, as well as other performance questions; and it will report on the various divestment laws in place and their various investment implications. The report says it will conclude with a few recommendations for future divestment action. The report says generally, a major investment fund concerned with risk limits its investment selections to the "investment grade" rankings of A- or better; of the 285 companies listed by the Investor Responsibility Research Center in December, 1984 as having operations in South Africa, only 108 were ranked A- or better; this was down from the 124 that had such high rankings in 1980; since most investment managers, concerned with safety, would not invest in companies with rankings of lower than A-, reducing their potential investment universe by 108 companies does not pose much of a burden. The report says some argue that the forced sales of South Africa-invested (SAI) securities will depress the price of the stocks to be sold, but there is little reason for this to happen; huge blocks of stock are traded daily by such institutional brokerage houses as Salomon Brothers, Goldman Sachs, and Lehman Brothers with no discernible impact on the market; just recently, 1 million shares of IBM were sold in a single transaction valued at $125+ million without affecting the market in any significant fashion. The report says as was discussed in the opening paragraphs of this paper, a major risk to the portfolio is the volatility of the political situation in South Africa; investors in nuclear power are keenly aware of the importance of political issues to the performance of their investments; while most companies operating in South Africa are sufficiently large that they are not likely to go bankrupt because of revolution in South Africa, the stock market does not treat uncertainty well; the mere perception that a company might lose its investment in South Africa is often enough to depress the price of the company's stock; therefore, given the political trends, a portfolio manager would be well-advised to be divesting as soon as possible, with or without a law forcing him to do so. The report says a few studies (Daniels and Bell, 1982; Capital Management Sciences, 1982; U.S. Trust, 1982) examined the actual performance of the State of Connecticut under its divestment laws; the Daniels and Bell study indicated that the SAF portfolio substantially outperformed unconstrained portfolios with no negative risk impact; the U.S. Trust and Capital Management Sciences studies indicate that there is higher risk associated with a South Africa-free portfolio but that returns are substantially higher; the Capital Management Sciences' interpretation of its results focused heavily on the risk question, although statistically, they were not very much higher. The report says much has been made of the extra costs that would be incurred from the brokerage fees charged during the divestment process; this is essentially a non-issue; one partner in a national brokerage firm called it a smoke-screen issue, designed to hide the typical investment manager's distaste for the politics of divestment. The report says most of the laws have liberal divestment time frames; the proposed legislation for the State of Wisconsin, for example, allows 3 years for divestment, while the City of Berkeley, Calif. requires the redepositing of public monies "with all prudent haste"; again, such time restrictions should allow plenty of time for even the most conservative portfolio manager to divest successfully. The report says a few laws, such as that proposed for the State of Maryland, require not only divestment, but also require that funds be invested within the state, for development purposes; while this goal is most applaudable, a problem for reinvestment may be the relative dearth of alternative investment vehicles to soak up the divested funds. The report says change comes very slowly to Wall Street; most investment professionals are extremely conservative and resistant to any alteration in their way of doing business; the divestment movement brings radical, overtly political ideas into the conservative, covertly political institution of the stock market; but money talks, and the evidence clearly shows that divestment policies can be financially beneficial for even the largest portfolios. The report says while divested portfolios tend to be slightly riskier from a purely market perspective, the increased risk is well within the "prudent man" constraints all managers work under; the potential increased rate of return and the political risk of remaining invested in destabilized South Africa are sufficient to warrant full divestment. The report discusses Arthur Little and Co., the University of Massachusetts (UMass), Standard and Poors Corporation (S&P), and "investment grade" rankings.