Q&A - Socially Responsible Funds


Topic:  Investment Planning & Management

Q:  My co-workers tell me I'm wasting my time (and money) by using socially responsible mutual funds in my portfolio.  Can you settle the argument?

It's a debate that's been around since the 1970s, when socially responsible mutual funds first appeared on the scene. Critics argue that investing in socially responsible funds or companies sacrifices returns and increases risk because you're automatically eliminating some of the best-performing companies in the world.  Better to maximize your return and donate to the causes you support. Advocates counter that you can invest according to your conscience and still do well financially.

Of late, advocates are winning the argument. Socially responsible mutual funds have hardly been poor performers among stock mutual funds. The Domini 400 Social Index, an index of 400 screened stocks considered the benchmark for socially conscious investors, outperformed the S&P 500 for the 10-year period ending December 31, 2000.  For the 12-month period ending September 30, 2001 the DSI 400 was down 26.75 percent versus a decline of 26.60 percent for the S&P 500.  According to the Social Investment Forum, one out of every ten professionally managed dollars (such as through mutual funds) is invested in socially responsible portfolios.

Still, many investors are not familiar with the concept of socially conscious, or socially responsible, investing. In its broadest sense, socially conscious investing means investing in companies on a basis other than financial considerations alone, particularly social and ethical considerations. For example, a particular tobacco company might be an excellent investment based purely on return, but many socially conscious investors wouldn't invest in it precisely because it produces cigarettes. They also might screen out companies because they are involved in the military, alcohol, gambling, and nuclear power or have a poor environmental or product safety record. (Early on, investors screened out companies that had connections with South Africa because of its racism.) They may invest in companies because they have good workplace practices, promote women and minorities, are involved in the community, have a strong charitable program or any of dozens of other criteria.

Investors can screen companies either on their own or they can, as do many investors, use mutual funds to do the leg work. Each fund has its own social screening criteria as well as investment objectives, such as growth or income, large or small capitalization, and so on, so it's important you read the prospectus and annual report carefully as you would for any fund. There are funds for nearly every type of socially conscious investor. Some funds focus primarily on the environment or labor issues, and at least one fund focuses on companies that have a good record with gays and lesbians.

Several funds have arisen in recent years based on religious or "values-based" concerns. They screen out companies that don't promote Biblical teachings or teachings of the Koran, for example. This points out some of the difficulty in finding the right fund or company under the umbrella of "socially responsible" investing. A conservative Christian fund, for example, might not want to invest in a company that provides health benefits for "domestic partners"-exactly the kind of company other socially screened funds or investors might want to buy. Some socially conscious investors won't invest in U.S. Treasury securities because the federal government runs the military, yet others would because the government funds social welfare programs. Some socially responsible funds have been criticized for being less than "pure" in their screens, holding controversial pharmaceutical or oil companies, or companies whose products are manufactured overseas in low-wage countries.

Beyond the challenge of finding the right socially responsible funds or companies, there's no doubt that socially conscious investing dramatically reduces the number of mutual funds and companies an investor might consider, thus making diversification more difficult. For example, there are few international socially responsible funds and funds that invest in real estate investment trusts (REITs). Still, more companies fit the screens than investors may realize. According to the Green Money Journal, approximately half of the 1,000 largest publicly traded U.S. companies meet most socially responsible screens.

Ultimately, the decision to take a socially conscious approach to investing should be treated as you would any form of investing: what are your financial planning goals and what socially responsible investments might help you reach those goals.