A few months ago, State Street Global Advisors, ‘SSGA’, the self-described ‘third largest asset advisor in the world’, celebrated its first anniversary of their creation of a new specialty Exchange Traded Fund, the SPDR SSGA Gender Diversity Index ETF (SHE). An exchange traded fund, or ‘ETF’, is a basket of stocks or other securities that trades as a single unit on a stock exchange. An example is the Toronto Index units, which contain all the stocks in the TSX/S&P Composite Index in Canada, or the ‘Spider’, SPDR, which contains all the stocks in the iconic S&P 500 Index in the United States.
SSGA touts this relatively new ETF as giving investors the chance to participate in higher returns of companies with ‘gender-diverse’ management and boards of directors. SSGA cited data to validate this strategy; a Morgan Stanley Capital International study dated November, 2015, indicated that firms with three or more female board directors or a higher percentage than national average generated a return on equity of 10.1% versus 7.4% for companies without a ‘critical mass’ of female directors.
This would, on the surface, seem to provide an impressive foundation for the notion of investing this way. Theoretically, higher returns on equity should generate greater profits, higher growth, and, thus, a higher share price and possibly fast-growing dividends. However, as an investment specialist, I would caution investors in making a direct link between gender diversity and profitability.
The 2.7% increase may not necessarily be simply because there is a higher proportion of women employed in those businesses., it may be the case that high-performing firms tend to appoint more female directors to their boards for more equality reasons and after they were already successful.
Oftentimes, a high return on equity does not indicate better profit-generation, but a low book value for the equity by which the metric is calculated. Older, larger companies, have relative low book value of equity, because they were founded so long ago, when the dollar (or yen, euro, pound, or yuan) value was less, and they were far smaller. Smaller, or faster growing companies generally have higher book equity values than older firms.
Also, larger, older, or more-established-sector companies are able to take on a higher level of debt in their capital structure, so their book equity values seem low versus total assets, or the total market value of the firm – particularly compared to smaller, faster-growing, or more turbulent-industry ones.
Some fairly large IT, defense, engineering, manufacturing, mining, and oil and gas firms may have low levels of debt, and in some cases have fewer women in upper management or on their boards. Yet many of them are good investments. Another weakness of return on equity is using that metric alone. Operating and free cash flow are important too, as is return on assets, and the variability and trends of all these.
So while gender diversity is certainly a good idea, upper management and corporate boards should be more focused on new opportunities or potential hazards, and how best to adapt to them. Stepping out of groupthink certainly helps, and hiring the best people is a good use of human resources regardless of gender. Companies that do this will probably outperform competitors. While State Street Global Advisors have given investors another option for investing, this financial professional suggests investors stick to the proven performance metrics.