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Socially Responsible Investing

Whether you're an animal-rights activist, a Catholic, a Seventh-day Adventist, or someone who just wants to avoid tobacco companies and military contractors, there is probably a mutual fund out there tailored just for you. As individual investing has exploded in popularity in recent years, so has what is generally referred to as "Socially Responsible Investing," or SRI. These days, SRI is a huge sub-sector of investing, and involves a lot more than just avoiding Philip Morris(NYSE: MO).

According to the nonprofit Social Investment Forum, over $2 trillion, or $1 out of every $8 managed professionally, is currently invested according to some social criteria. SocialFunds.com reports that there are now almost 200 different mutual funds utilizing social screens to select investments. 

Clearly, socially responsible investing has branched out beyond its roots in 1960s-style activism, and now encompasses practically every set of values. There are funds for Christian Scientists (which don't invest in pharmaceuticals), for Muslims (no banks, due to Islamic principles proscribing the charging of interest), for conservative Christians (which avoid companies in any way involved in, for example, pornography and abortion), and funds that screen for the more traditional tobacco, alcohol, weapons, and gambling concerns, as well as for companies that fall short of various environmental, labor, and diversity criteria.

Of course, some critics argue that all investing is socially responsible. After all, investing usually involves regular savings, planning ahead, and looking to provide for your retirement and perhaps your heirs. What could be more responsible than that?

There's plenty of truth to that view, of course. Without judging others' choices, though, we'll just note that there are an increasing number of options available for those who want to add a social dimension to their investing. To help you sort through this growing area, let's address some basic questions about SRI.

What is Socially Responsible Investing?
At its most basic, SRI is simply the use of social or moral criteria when researching investments. Many SRI groups include three different activities under the socially responsible umbrella: screening companies for objectionable practices; engaging in shareholder activism to persuade companies to change certain behaviors; and community investing, which involves direct investment in disadvantaged communities.

Some groups prefer the term "socially conscious" investing, while others, such as the Christian site Crosswalk.com, use "values-based investing."

Does SRI lower your investing returns?
There is plenty of debate over this subject, but the short answer appears to be "not necessarily." The main question here concerns your investment vehicle: while some community investing programs, for example, will provide CDs or money-markets at below-market rates, socially responsible equity mutual funds have generally held their own in recent years.

According to the Social Investment Forum, out of their 16 member funds with at least a three-year track record and over $100 million in assets, 14 received top marks from Morningstar or Lipper Analytical Services, or both, last year ("top marks" are defined as either a four- or five-star rating from Morningstar, or an "A" or "B" grade from Lipper). In addition, an article on Morningstar's website last summer noted that of 38 SRI funds it tracked, 9 had beaten the S&P 500 index over the previous five years (as of May 2000). This is not bad, given that most managed mutual funds lose to the S&P 500 index over five-year periods. 

Much of this outperformance, however, is due to the nature of many socially responsible screens. For example, the Domini Social Index -- which is what the largest SRI fund, the $1.3 billion Domini Social Equity Fund (DSEFX), is based on -- kicks out many of the S&P 500's slower-growth, heavy industrial companies, while keeping hyper-growth (at least until recently) technology firms such as Microsoft(Nasdaq: MSFT) and Cisco(Nasdaq: CSCO). In fact, Domini Social Equity includes Cisco, Microsoft, Intel(Nasdaq: INTC) and EMC(NYSE: EMC) among its top ten holdings (as of the end of last year).

While this does not invalidate their strong performance in the late 1990s, many SRI funds were hurt by last year's market downturn. The Domini Social Equity Fund lost 15%, compared to the S&P 500's 9.1%, after three years of beating the S&P. With last year included, the Domini fund returned 18.06% annually over five years, compared to the S&P 500's 18.33%. However, as pointed out at SocialFunds.com, there were some value SRI funds and funds focused on alternative energy sources that did quite well last year.

One area where many SRI funds don't do well is fees and expenses, which can frequently be higher than with comparable non-SRI funds. As a writer for Morningstar.com put it, "many SRI funds' sense of social responsibility doesn't extend to how much they charge their shareholders." While these fees presumably reflect the additional cost of social screening, investors should definitely compare the fees and expenses of different SRI funds, since some are simply too expensive.

OK, so I'm interested. Where do I start?
Since no company or industry is perfect, your first step is to figure out which criteria you want to use. Are you looking to screen out companies involved in practices you consider objectionable, or do you also want to include companies that do things you support? If so, which issues are important to you? Examples of SRI screens can be found at the websites of many SRI fund families (see below), and at Crosswalk.com.

Next, you'll need to decide what to invest in: screened mutual funds? Or do you want to do your own screening, and invest in individual companies that meet your criteria? Screening individual companies can take some work. One place to start is to see if a particular company has been included in mutual funds whose screens you agree with, since many funds list their holdings online. Also, check out the Shareholder Action Network's list of resources, where you'll find plenty of organizations that have already evaluated many individual companies.

Given the additional work involved in screening individual companies, many investors may want to consider socially responsible mutual funds. Just as The Motley Fool prefers index funds generally, socially responsible index funds are preferable for their lower fees (compared to other SR funds; most have higher fees than non-SR index funds). While the Fool does not endorse any fund family, some of the older SR ones include Domini, Calvert, Citizens, and Parnassus, though you can find plenty more at SocialFunds.com's mutual funds center. Don't forget to check Morningstar or other resources when you're doing more research into specific funds, however, for a more impartial evaluation.

In addition, several of the big mainstream fund families also offer socially responsible funds. In fact, two of the lowest-cost SRI index funds are The Vanguard Group's Vanguard Calvert Social Index Fund and TIAA-CREF's Social Choice Equity.

Another interesting trend is the addition of SRI funds to corporate 401(k) plans. As the New York Times reported last month, several blue-chip companies such as Ford Motor(NYSE: F) have recently added socially conscious funds to their retirement plan options. If you'd like that option as well, let your plan administrator know.

What other alternatives are there?
Socially responsible investing does not just involve avoiding companies you disapprove of. It can also include more proactive steps, such as shareholder activism, which involves trying to change the practices of a publicly-held company. An example of shareholder activism that many SRI organizations consider a victory was Home Depot's(NYSE: HD) decision in 1999 to phase out the sale of old-growth timber, which came about partly as a result of a shareholder resolution. For more information, head over to the Shareholder Action Network.

Another intriguing option is community investing, which may appeal to those looking for a more direct impact (if less remunerative). Opportunities are increasing here as well, as there are some money market funds and foundations that direct capital to disadvantaged neighborhoods. Both Domini and Calvert offer vehicles of this kind, and SocialFunds.com's Community Investment Center is an excellent source for additional information.

More questions?
We've only just scratched the surface of SRI. If you've got any additional questions, visit the Socially Responsible Investing discussion board here at the Fool!

Chris Rugaber owns shares of Cisco, as well as a TIAA-CREF socially responsible fund in an old 401(k), and plenty of irresponsible stocks that sleep late, leave their clothes on the floor, stay out late, and never call. His bloody and battered stock holdings (well, they're not that bad) can be seen online, as can the Fool's disclosure policy.


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