Morningstar Advisor - June/July 2009 - 80

Phillips Curve Talkin’ ‘bout a Revolution By Don Phillips The debate surrounding socially responsible mutual funds has long been every bit as interesting as the funds themselves—and that’s saying something given the eclectic nature of this group. The discussion starts with how one defines socially responsible activity. Looking at funds wearing the socially responsible label won’t provide definitive answers. Their policies are all over the map, ranging from one prominent SRI fund that excludes no industries, but looks for better-behaved players within each industry, to a fund that won’t invest in any company that is among the top 100 suppliers to the U.S. military, even if what it supplies is something as prosaic as soda pop or toilet paper. The former fund once famously held both Dow Chemical DOW and Lockheed Martin LMT in its portfolio, names that would be anathema to many SRI funds. Conversely, other SRI funds have held names like Nike NKE or Wal-Mart WMT that might be fine for investors concerned about military activities but raise flags for investors concerned about employment practices. There’s simply no company, and hence no fund, that can meet everyone’s definition of socially appropriate behavior. If investors want to be socially conscious, they must first define their social goals, thus adding a step to the investment process. Many investors, of course, are willing to take this extra step—or maybe better said, the media seem to believe that many investors want to explore this option. SRI funds have long received a disproportionate amount of media coverage. Taken together, the 333 SRI funds in our database make up just more than 1% of the fund industry, yet relative to individual funds like Vanguard’s Prime Money Market Fund, American Funds Growth Fund of America AGTHX, or PIMCO Total Return PTTAX, which each have larger asset bases than all SRI funds together, socially conscious funds get a massive amount of ink. Someone taming the evils of industry and making investing safe for those who don’t trust big business is the kind of feature that journalists love. And to the extent that SRI funds widen the appeal of investing and make more people comfortable with investing for the future, that’s a good thing. Perhaps the most interesting aspect to the press coverage of SRI funds, however, is the backlash from some members of the more-right-wing business media against the positive coverage given SRI funds in the general media. One notoriously conservative business magazine has long railed against socially responsible investing, arguing that one should always invest for maximum return and if that causes guilt then some of the profits can be donated to charity. In a critical article, the publication took the performance of five top SRI funds and concluded that, because the five together hadn’t beaten the market over some trailing periods, socially responsible investing was a waste of time. There were only two problems with this analysis. One, it was during a bull market for stocks and two of the SRI funds were balanced funds whose bond positions created an obvious drag on performance. Two, the same analysis could have applied to almost any five randomly chosen non-SRI funds, as both active funds and real-world index funds with fees tend to trail pure indexes with no fees. While it’s easy to find fault with these tactics, I have some sympathy for the magazine’s concerns. The very notion that some investment activities are socially responsible implies that much investing is irresponsible. What goes missing here is the reality that investing itself is a socially conscious act. Deferring some immediate gratification from spending today in order to put aside assets for the future, and thus ensure greater security for you and your loved ones, is socially responsible. Living beyond one’s means and not planning for the future is patently irresponsible. By conveying the sense that investing is somehow wrong or nefarious, we give an easy excuse to those who choose not to plan for the future. But this argument is perhaps too philosophical. In a practical sense, I still see SRI funds as removing obstacles and thus widening the circle of investors. But while SRI investors may have different fund selection criteria, they still have much in common with all fund investors. No matter how much SRI investors claim to be driven by their principles, assets follow performance in the SRI world just as they do in the fund world in general. Socially aware investors may have been intrigued by the emergence of these funds in the 1980s, but it took the superior returns in the 1990s caused by a general overweighting in technology stocks to really spur asset growth in SRI funds. Principles may matter, but profits seem to matter, too. SRI funds are a valuable addition to the fund world. There’s no reason investors must divorce their social, political, religious, or environmental concerns from their financial ones. Finance is a means to an end, and investors have every right to influence both the process and the outcome. How’s that for a revolutionary concept that both the left and the right can get behind? K Don Phillips is Morningstar’s managing director, corporate strategy, research, and communications. 80 Morningstar Advisor June/July 2009

Morningstar Advisor - June/July 2009

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