The benefits and costs of socially responsible investing

Investing in companies that consider more than just the bottom lines helps those companies grow, but it may hurt your returns. What’s an investor to do?
When I think about socially responsible investing, the words of an ancient Bob Dylan song, Who killed Davey Moore?, come to mind. The song is about a championship boxer who died of injuries sustained in the ring. Dylan lets all those involved—from the referee to the fight promoter to the paying crowd—explain in turn why they bear no blame. “Not me” says Moore’s opponent. “I hit him, yes, it’s true. But that’s what I’m paid to do.”

Now consider Altria, the world’s largest commercial cigarette maker. Who’s to blame for the deaths the firm’s products cause? Altria’s top executives? They’re responsible to the board of directors. The directors? They report to the shareholders. The mutual fund manager who owns shares in Altria? He or she is trying to achieve the best possible return for shareholders. The fund’s shareholders? We just want to earn enough to afford a decent retirement.

In truth, no one is to blame—and everyone is to blame. Cigarettes are a legal product, and if Altria uses every conceivable gimmick to persuade young people around the world that smoking is the coolest thing they can possibly do, well, the company is simply doing its job. I, personally, have deep concerns about helping Altria pursue its deadly business. But I know I own some Altria stock through a couple of mutual funds. You may, too. Morningstar Inc., a Chicago-based fund research firm, reports that 923 stock funds together own 462 million shares of Altria, representing 22% of the company’s outstanding stock.

How to make a difference

Socially responsible funds typically avoid investing in tobacco, alcohol, gambling and weapons. But you can find socially responsible funds to fit practically any world view. The Amana funds invest in accord with Islamic principles while the right-wing Christian Timothy Plan funds fight “cultural degradation” by avoiding companies that promote abortion or gay rights. In all, Morningstar lists 124 socially responsible funds. Assets total $49 billion—a sevenfold increase over the past ten years—but still a drop in the bucket compared to the $8.1 trillion in all mutual funds.

Investing in socially responsible funds does make a difference. Every dollar that isn’t invested in Altria, for instance, keeps the company’s stock price a bit lower that it otherwise would be. The lower the stock price, the less financial muscle the company has—whether to pay for product placements in Hollywood movies or television commercials in developing nations. The notion espoused in a recent Washington Post article that socially responsible investing serves no purpose other than to make investors feel warm and fuzzy is nonsense.

The dilemma is that socially responsible investing can hurt your returns. Over the past ten years, the average socially responsible stock fund returned an annualized 7.8%. Unfortunately, that’s 1.1 percentage points per year less than the average return for all stock funds. That’s a big gap—especially when compounded over many years.

Why the below-par performance? After analyzing funds for Kiplinger’s Personal Finance Magazine for almost 14 years, I’m convinced that a fund manager has to be passionate about earning high returns to do a first-rate job. Investing is like anything else: If you want to be good at it, you have to care about your performance—a lot.

A handful of socially responsible managers do love investing. But most of the ones I’ve interviewed are passionate mainly about socially responsibility. Aware of this reality, perhaps, some socially responsible firms have divided up duties in recent years. Bethesda-based Calvert Group, for instance, confines its work on stocks to screening them for social responsibility, and then contracts with outside managers for stock picking.

The other problem with socially responsible investing comes with the territory. When you limit the universe of stocks you can pick from, your returns are likely to suffer a bit. It’s somewhat akin to telling a baseball slugger to get on base but that he can’t hit to right field.

Does one percentage point per year seem like a small price to pay to invest in sync with your values? Or should you forget about socially responsible investing—and increase your contributions to good causes commensurately? In the end, that’s a decision only you can make—and there’s no right or wrong answer.

If you decide to invest in socially responsible funds, though, there are some superior funds which may allow you to achieve high returns and to sleep more easily.

My favorites include Ariel Appreciation (800-292-7435), Neuberger Berman Socially Responsive (800-877-9700), TIAA-CREF Social Choice (800-223-1200), Vanguard FTSE Social Index (800-635-1511) and Winslow Green Growth (800-441-7031).

Steven T. Goldberg is a partner in Tweddell Goldberg Investment Management www.tginvesting.com, a fee-only investment advisor in Silver Spring. Please send questions, for print or otherwise, to steve@tginvesting.com.

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