To many investors, socially responsible investing is a bit like eating your peas: You might think it's what you should do, but you'd really rather pass and find something more appetizing instead.
For years, the lackluster performance from socially responsible funds forced investors into an unpalatable dilemma: Should you sacrifice profits in the name of values, or should you make money investing in companies whose products you scorn? Recently, though, socially responsible funds have performed better than the overall market -- and some expect a permanent turnaround in the way investors perceive them.
A good year for good
In a recent report, the Social Investment Forum gave overall results for 143 broad-based funds whose managers are among its members. According to the report, 65% of those funds outperformed their respective benchmarks during 2009. Among large-cap funds, which make up the majority of the funds that the report covered, the news was even better: Almost 73% of the funds beat the S&P 500, and as a group, their performance beat the S&P by more than 6 percentage points.
Of course, a single year's results don't prove that socially responsible funds have definitively reversed their spotty long-term past performance. Looking over longer time frames, socially responsible funds have a long way to go to catch up. Even including 2009, only 22% of funds beat their benchmarks over the past five years. Only 38% managed to outperform during the last decade, despite the overall market's subpar returns since 2000.
The times, they are a-changin'
Socially responsible funds have changed a lot since they were first introduced. When socially responsible investing first became popular, most funds tended to focus on excluding "bad" companies. For instance, shareholder activists played a significant role in discouraging investment in South Africa during apartheid. More recently, such investors have made similar moves in encouraging mutual fund managers and large institutional investors like Warren Buffett's Berkshire Hathaway
Other popular targets of socially responsible funds are so-called "sin" stocks. Alcohol makers like Diageo
Accentuate the positive
Now, though, socially responsible funds have evolved. Although they still seek to filter out certain companies, more funds now choose investments based on positive developments, such as environmental issues or corporate governance. That in turn has broadened the scope of socially responsible investing, making it easier for funds to focus on picking the best investments.
For example, one of the few funds that managed to deliver double-digit annualized returns during 2008 and 2009 was the socially responsible fund Appleseed (APPLX). The fund stresses sustainable practices among the companies it invests in, and it looks for companies that understand their environmental and social impact. But one of the fund's top holdings is the SPDR Gold Trust
Can you win?
The jury is still out on whether socially responsible funds can stand up to their broader peers in the mutual fund industry over the long run. Yet while you might have expected underperformance in the past, now it's perfectly reasonable to seek out socially responsible funds with an aim toward beating their benchmarks.
With social responsibility evolving to become more inclusive -- and with more companies adopting policies that would make them more attractive to socially responsible investors -- funds are in a much better position to pick from a wider range of attractive stocks. If you want to do good for the world but still beat the market, the right socially responsible fund may be exactly what you're looking for.
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Fool contributor Dan Caplinger is trying to make the world a better place, one investor at a time. He owns shares of Berkshire Hathaway and Philip Morris International. The Fool owns shares of Berkshire Hathaway, which is a Motley Fool Inside Value pick and a Motley Fool Stock Advisor recommendation. Philip Morris International is a Motley Fool Global Gains selection. Diageo is a Motley Fool Income Investor recommendation. Try any of our Foolish newsletters today, free for 30 days. The Fool's disclosure policy might be stuck in a snowdrift, but it's still working for you.