More and more U.S. cities and states are weighing legislation that would restrict public pension plans from investing in companies that do business in South Africa. Divestment has potentially serious implications for the investment policies and practices of large funds.

Consider what happens if each of the 152 South African-related companies in the Standard & Poor’s 500 is replaced by the largest “unrestricted” company in its industry. The new Alternative Universe amounts to less than 62 per cent of the capitalization value of the “old” S&P 500. Large multinational companies are replaced by smaller, domestic companies. The capitalization weights of some industries (including drugs, motor vehicles and product equipment) are more than halved. The Alternative Universe has 8 per cent more risk, as measured by beta, and 3 per cent less diversification than the S&P 500.

A pension fund restricted to this universe may expect higher trading and administrative costs inasmuch as its portfolios will contain smaller, riskier and less liquid companies. The larger the fund, the more likely it will have to restructure its plan investments completely in order to achieve targeted risk/return goals.