Nina Röhrbein finds investors staring down the barrel of a gun when it comes to their investments in controversial weapons

While many European pension funds have exclusion criteria on what they call controversial weapons – the likes of cluster bombs and anti-personnel land mines – they seem to be left out of the big public debate on civilian firearms that is currently engulfing their US counterparts.

The shooting at the Sandy Hook Elementary School in Newton, Connecticut, last December appears to have been the watershed that has led US pension funds to examine their portfolio holdings for investments in firearms.

The California Public Employees’ Retirement System (CalPERS) and California State Teachers’ Retirement System (CalSTRS) have begun a process to sell their holdings in makers of military-style assault weapons, while the New York State Common Retirement Fund has frozen its investments in firearms manufacturers as it reviews further divestment options.

The New York City Teachers’ Retirement System (TRS) voted to divest its publicly traded commercial gun and ammunition manufacturers following a review process of the fund’s exposure to such investments in February.

MSCI ESG Research counts at least six other state teacher and employee pension systems that are reviewing their exposure to the firearms industry. In addition, municipal pension systems in New York City, Philadelphia, Chicago and Los Angeles have begun firearms divestment reviews.  

But the subject is perceived to be a US issue, as the country is by far the largest firearms market in the world, with the number of guns in circulation nearly as large as the population itself.

“Because firearms sales are much more restricted in Europe and deaths from firearms are much more uncommon, it is understandable that European investors may perceive this as a US problem,” says Doug Cogan, vice-president MSCI ESG Research in Boston.

Zach Paris, client relations adviser at Sustainalytics in Boston, says: “There is no publicly listed European firearms manufacturer and the exposure of European pension funds to the three US manufacturers is relatively limited. In the US, a few asset managers regularly screen for involvement in firearms and controversial weapons, but in terms of broader interest, this topic resurfaces every couple of years when something like the Sandy Hook shooting spurs the interest of the public and subsequently the interest of investment managers.”

The pension funds reviewing their firearms holdings have tended to be in states of the US that support gun control. Public pension funds in states such as Texas, on the other hand, are not reviewing their exposure.

“Ultimately, they are represent the interests of their beneficiaries and for the beneficiaries of some of these pension funds, firearms are not a problem as they do not face the same reputational risk and questions as those in other areas,” says Paris.

Sustainalytics has been receiving requests from investors and a number of banks for advice on their lending policies, as some have come under pressure for extending credit lines to firearm manufacturers, which is why there has been interest across the board in terms of the different strategies that can be implemented.

For instance, investors may want to exclude firearms manufacturers but are content to invest in some major firearms retailers. They may only want to exclude manufacturers that produce military-style assault weapons or those that receive a specific percentage of revenue from those. They may also extend that to ammunition providers.

But due to the size of firearm manufacturers they do not need to worry about restricting their investment universe.

“None of them have a current market cap of over $2bn (€1.5bn) and only three of the US ones – Smith & Wesson, Sturm Ruger & Co and ammunition maker Olin Corp – are publicly listed, and they usually account for less than 0.5-1% of a portfolio,” says Paris.
“Therefore it is relatively easy to exclude them from a portfolio without having to sacrifice any diversification or other types of portfolio benefits.”

However, Paris admits that these three stocks have performed quite well over the last couple of years.

“But the main reason pension funds continue to hold them is a lack of pressure from clients, beneficiaries and the public in the region where the fund is located,” he says.
MSCI offers two screens when it comes to weapons manufacturing.  One screen is for makers of civilian firearms, suppliers of ammunition and retailers who sell these civilian weapons and ammunition. A second screen applies to military weapons manufacturers, including makers of land mines and cluster bombs that often cause civilian casualties. This specialised screen is especially popular in Europe.

 “Investors always must decide whether they want to limit exposure to these companies or industries in their portfolios,” says Cogan. “However, even if all makers of handguns and rifles are screened out, this still amounts to a fairly discrete set of players, since most firearms makers are small caps or privately owned. If the screen is extended to firearms retailers, a broader and larger set of companies potentially could come into play. For example, Wal-Mart is the largest gun retailer by virtue of its sheer size, as it ranks in the top 10 publicly traded companies in the world in terms of market capitalisation.”

Paris adds: “If investors start divesting from retailers they could lose some of the benefits of diversification in their investment universe but with firearm manufacturers the impact is negligible.”

According to Paris, the typical approach with retailers is to set a revenue threshold of around 5-10% on the sale of firearms. Most retailers fall below that threshold, with the exception of Cabela’s, whose revenue from firearms is estimated to be somewhere in the 10-25% range.

MSCI ESG Research currently applies a 15% threshold for retailers where firearms sales may represent a significant line of business. However, it is eliminating this threshold because no publicly traded retailers report sales that high.  

CalSTRS is guided by its divestment policy and its policy for mitigating ESG risks, which lists 21 risk factors. Its move towards divestment from certain firearms manufacturers was based on a board motion by California’s state treasurer Bill Lockyer noting the fact that assault-style weapons and high-capacity magazines are already illegal for commercial sale, use and possession by the general public in California, and appear to violate its risk factors regarding human health.

CalSTRS’ global equity investments are largely passive ones, based on an index ex-tobacco. There are just two firearms companies in its public equities portfolio that meet the requirements of the board’s divestment action, namely Smith & Wesson and Sturm Ruger & Co.

“These holdings represent less than one hundredth of one percent of the portfolio, and should not impact returns substantially,” says Michael Sicilia, spokesman for CalSTRS. “It should be fairly simple to unwind the positions, once the formal divestment process has been completed. Additionally, we are investors in two Cerberus private equity funds that contain Freedom Group, the owner of Bushmaster, which made the rifle used in the Sandy Hook Elementary School tragedy. Cerberus has announced it intends to divest of Freedom Group holdings, valued at $8.8m.”  

The five companies the $46.6bn TRS fund divested from are aerospace and defence contractor Alliant Techsystems, Brazilian gun producer Forjas Taurus, Olin Corporation, Smith & Wesson and Sturm Ruger & Co.

In Europe, the ethical policy of the Third Swedish National Pension Fund AP3 is based on international conventions only.

“In Sweden, there has been little talk about firearms in pension fund portfolios,” says Christina Kusoffsky Hillesöy, head of communications and sustainable investments at AP3.
“We have excluded nine cluster weapon companies and one anti-personnel land mine company as they breach international conventions. As there is no international convention that bans firearms, firearms producers are not on our exclusion list.”

But as public pressure mounts and legislative initiatives are put into place, pension funds are increasingly likely to add firearms to a general restricted list, believes Paris, as they cannot reasonably argue that they would sacrifice their fiduciary duty in any regard by making that exclusion.

“The Sandy Hook Elementary School tragedy was a tipping point in the debate about gun violence in our nation, which prompted us to look at our own investments,” says Sicilia.
“Making this decision within the confines of our current ESG policy reinforced this as not only the right thing to do but it positions us to deal with the financial pressures we anticipate this sector will face.”