Using investments to make a difference

By Amy Fontinelle
Amy Fontinelle is a personal finance writer focusing on budgeting, credit cards, mortgages, real estate, investing, and other topics.
Posted on Jul 26, 2018

Part of building mutual strength is supporting the communities and causes you believe in. And more often than not, you do that with money. That can range from decisions about where to shop to strategies about where to invest your money.

Socially conscious investing — also called socially responsible investing, socially selective investing, or impact investing — tries to accomplish just that. It screens companies for environmental, social, and governance (ESG) factors, such as their record on air pollution, worker pay, community support, or shareholder accountability.

Individual investors can screen companies on their own to create a portfolio that will help them meet their financial goals while making a positive difference in the world. Investors can also choose from baskets of investments — mutual funds and exchange-traded funds (ETFs) — put together by investment companies that handle the screening work.

Will you pay more to do good?

If you shop in a way that supports your values, you know that you sometimes have to pay more for products that are made in ways you endorse by companies you approve of. Organic, fair-trade coffee and sweatshop-free clothing are often more expensive than their conventional counterparts.

It’s logical to assume, then, that you might have to pay more for investments that do the same. The problem is that just as paying more for fair-trade coffee means less money in your bank account, higher investment fees can mean less money in your brokerage account.

What’s a baseline for investment fees? Typically, for traditional index mutual funds or ETFs with rock-bottom fees, you might pay an expense ratio of just 0.03 percent to 0.15 percent for a domestic stock ETF from one of the major brokerages dealing with such investment vehicles. That means for every $1,000 invested, you’ll pay $0.30 to $1.50 per year in fees. That doesn’t sound like a lot, but once your portfolio contains $100,000 or more, that figure increases to a more significant $30 to $150 a year.

So how do the fees for socially conscious investments compare to those for traditional ones?

“Historically, on average, socially selective funds underperformed the market for the same reason other name-brand, actively managed funds did: high fund expenses,” said Jason R. Escamilla, CEO of Impact Labs in San Francisco, in an interview. Socially selective funds were a niche market that required a marketing and sales budget to attract investors, he explained.

“Today, you can find socially responsible or socially selective investment options with expense ratios at 0.20 percent and lower,” Escamilla said, thanks to newer, algorithmically constructed ETF portfolios.

Will you sacrifice returns to follow your conscience?

And what do the returns of socially conscious investments look like compared with peer investments without a focus on the triple bottom line of people, planet, and profits?

“Most investors believe there is a trade-off between one’s values and one’s investment returns. This is left over from the days of overpriced investment products,” Escamilla said.

A 2017 CNBC review of socially responsible investing fund performance vs. traditional fund and benchmark performance using Morningstar data found that choosing SRI funds didn’t hurt performance — as long as the SRI funds were put together with an emphasis on including companies with strong ESG factors rather than excluding companies with negative ones.

Morningstar came to a similar conclusion in 2016 when it reviewed the academic literature on the subject, as did separate meta-analyses in 2013 and 2015, according to CNBC. And an ESG ratings report from investment research firm and index provider MSCI found that over a roughly 10-year period through April 2017, the MSCI All Country World ESG Index outperformed its traditional counterpart.

Many analyses, then, show that SRI funds neither underperform nor outperform traditional funds. However, the overall findings seem to suggest that if investors want to hold an SRI fund, they should consider one that’s diversified across many industries to help achieve more stable results and avoid excessive volatility.

But a different analysis, published in 2017 by "Money," found that from 2010 through 2015, SRI funds consistently underperformed the Standard & Poor’s 500® Index1 — with the exception of 2014, when the two were equal. And the article offers opposing advice: focus a small portion of your portfolio on narrowly targeted ESG funds, not diversified ones, to ensure that your investments truly meet your screening standards — something that may be difficult for diversified funds to achieve.

Other challenges in socially responsible investing

Following your conscience might mean eliminating companies that profit from any of the following: adult entertainment, alcohol, animal testing, contraception, deforestation, gambling, genetically modified organisms, human rights violations, nuclear power, thermal coal mining, or weapons, to name a few.

Or it might mean including companies whose practices are in line with your beliefs when it comes to matters such as board independence, business ethics, environmental protection, executive pay, gender and racial diversity, labor standards, privacy and data security, religious issues, renewable energy, or worker pay. What each investor defines as responsible or irresponsible depends on their unique beliefs.

Perfectly meeting your personal definition of socially responsible, then, might only be possible by selecting individual stocks and bonds. But not everyone has the time or know-how to do that.

Further, failing to properly diversify by concentrating your investments in one industry or in just a few companies is the biggest risk in socially responsible investing, said Robert R. Johnson, president and CEO of The American College of Financial Services in Bryn Mawr, Pa., in an interview.

If you devote a significant portion of your portfolio to one industry, then your portfolio may suffer more if a negative economic event hits that industry than a broadly diversified one. Underdiversification is a risk that is preventable and that is not unique to SRI, though. (Learn more: Knowing the financial eggs in your basket)

As mentioned earlier, investors can overcome the limits of time, knowledge, and underdiversification by investing in funds. You may sacrifice perfect alignment of your beliefs and your portfolio holdings when you invest in a fund, but don’t let the perfect be the enemy of the good.

Final thoughts

Trying to “do good while doing well” — to select investments that match your values while earning the same returns you would without implementing such a screen — can be tricky. Diversified ESG funds may give you the best shot at not sacrificing returns but may only be loosely aligned with your values. More narrowly focused ESG funds might align better with your values but will likely rise and fall more often as that industry’s fortunes change, potentially giving you more volatility than you might want.

If you need help developing a socially conscious investment plan, consider working with a financial advisor who can help you consider and prioritize your goals.

Learn more from MassMutual…

Working with a financial advisor — why not go it alone?

The link between community and financial well-being

Why you can win with a steady investment strategy

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The S&P 500 Index is an equity index and consists of the 500 largest stocks of U.S. companies .

The information provided is not written or intended as specific tax or legal advice. MassMutual and its subsidiarys, its employees, and representatives are not authorized to give tax or legal advice. You are encouraged to seek advice from your own tax or legal counsel. Opinions expressed by those interviewed are their own, and do not necessarily represent the views of Massachusetts Mutual Life Insurance Company.