Socially Responsible Mutual Funds - Part 1
By Shauna Croome

Is it possible to avoid mutual funds investing in companies with unethical practices, and still make investment gains? Some believe that unscrupulous means are sometimes necessary for making gains in one's portfolio. It is, however, possible to profit while using an ethical investment strategy--and you don't need to join Greenpeace in order to do so. What are Socially Responsible Mutual Funds? Socially responsible mutual funds hold stock in companies that adhere to social, moral, religious or environmental beliefs. In addition, the management of these funds have a shareholder activist approach and many funds also participate in community investment--we will talk more on these topics. To ensure the stocks chosen have values that coincide with the fund's beliefs, companies undergo a careful screening process. The Careful Screening Process Because there are so many different values and beliefs that people have, fund managers have quite a challenge when determining the stocks that reflect the optimal combination of values for attracting investors. The specific criteria used when screening for stocks all depend on the values and goals of the fund. The following kinds of issues are examined: community investment, environment, human rights, employment, animal testing, nuclear power, and services and products such as weapons, gambling facilities, alcohol, and tobacco. To be profitable, it is hard for a fund to focus entirely on one issue. For example, funds with a strong sensitivity towards issues of environmental concern will specifically pick stocks in companies who go beyond fulfilling environmental requirements, but the fund will most likely invest also in companies whose practices reflect other concerns, such as animal testing or nuclear power. Ownership is Taken Seriously Shareholder activism is one of the most important issues for socially responsible funds. They believe that shareholders of the fund have some responsibilities of ownership in the companies in which the fund invests. This responsibility, however small, is taken seriously. The shareholders use their ownership rights to influence management through policy change suggestions. This advocacy is achieved through attending shareholder meetings, filing proposals, writing letters to management, and exercising voting rights. Since it is difficult for all shareholders to exercise their votes, voting is achieved by proxy, and shareholders assign management to vote on their behalf. Most socially responsible mutual funds have a strict policy to maintain transparency in their decisions and disclose all proxy voting policies and procedures to their shareholders. Proof that individuals can make a difference is illustrated by the proposal the SEC passed in January 2003, which states that all mutual fund companies must disclose proxy voting policies and procedures and the actual votes to their shareholders. The SEC's decision was brought about by the thousands of proposal requests sent to them by socially responsible investors. An Investing Return From a Donation? Many socially responsible mutual funds partition a portion of their portfolio for community investments. A common misconception is that these investments are donations. This is not the case. These investments allow investors to give to a community in need while making a return on their investment. Many community investments are put towards community development banks in developing countries or in lower income areas, and they provide funding for community growth and development, such as housing and venture capital. Does Good Triumph Over All? As an investor you cannot be completely philanthropic and expect nothing in return for your investment other than that pure feeling of having purchased stock in a company that reflects your own values. How does the performance of socially responsible mutual funds measure up to that of a regular portfolio? On average, their performance has been comparable to that of regular mutual funds. There are several indexes that track the performance of stocks considered socially responsible investments. According to Domini Social Investments, as of December 2002 the average ten-year return for the Domini 400 Social Index was 9.99%, whereas the S&P 500's performance was 9.33%. The Heartbreaker Consequently, and somewhat ironically, there is a price for doing good. Socially responsible mutual funds tend to have higher fees than regular funds. The higher fees can be attributed to the additional ethical research that mutual fund managers must undertake. In addition, socially responsible funds tend to be managed by smaller mutual fund companies. Larger fund companies are able to make use of economies of scale, and as such they have fees that are more comparable to other funds. Keep a Level Head Before you let your emotion become your investment advisor, it is wise to maintain a level head. Here are some important tips to follow in order to maximize your chances earning decent returns while maintaining peace of mind: 1. Know your values - Everybody's values are different. Some may feel strongly towards the environment while others are more concerned with social programs. Rank your concerns. Once you have established a few top values, you may narrow your choices down to a few select funds whose values closely match your own. 2. Go beyond your values - Research the fundamentals and fees of each of the funds you have chosen. SocialFunds.com is a great resource for performance statistics and general fund information. Some items to consider is the level of the management expense ratio, the cost of load fees, the fund manager's track record, and how the fund has performed over the last few years. . By looking beyond the social aspects of the fund and focusing on the financials, you can avoid being drawn into a poor investment. 3. Diversify - A consequence of investing in these types of funds is that you may be limiting your investment to a few companies who have a lot in common socially, ethically, and financially. Think of a sector fund with a portfolio formed mainly from stocks in the internet industry. If you had all of your eggs in this basket during the internet market crash, all your eggs would have been broken. If your investment is placed strategically in different types of investments, the possibility of losing all of your investment is minimal. It is possible to diversify your portfolio with other stocks, bonds, or treasuries without going against your values. Investing in other socially responsible securities whose values differ somewhat from the specific focus of your chosen fund can help. If I haven't convinced you that socially responsible funds are a viable investment, tune in next time for part two, "Socially Irresponsible Investing."

By Shauna Croome