Ethical Investing

Out of disgust for companies that wield their considerable power irresponsibly, some environmentally- and socially-conscious investors avoid the stock market entirely.  As I explain in a previous article, this strategy is a poor one as you really can't afford to avoid market risk entirely.

Investing for the ethically-inclined (X1)
What's an ethically-concerned investor to do?  You could certainly perform your own due diligence on each company you would like to invest in and then purchase individual stocks, but this is hardly feasible for someone working a full-time job.  The process is extremely work-intensive, may incur significant transaction fees, will suffer increased volatility, and is very likely to fail to beat the market's overall returns.  Fortunately, there is another option: social index mutual funds.

Social index mutual funds work pretty much the same as any index mutual fund, holding a wide variety of companies to reduce risk through diversification in an attempt to match the returns of a particular market index.  The difference is, these funds have been screened more-or-less stringently to remove the worst corporate citizens.  They may try to match, for instance, the holdings and performance of the FTSE KLD 400 Social Index, which was specifically designed for this purpose (1).

A focus on ethics in investing has given rise to several companies in a field now known as SRI - Socially Responsible Investing.  This strategy is essentially the opposite of 'Sin Stocks' and 'Vice Investing', which purposefully focus on companies involved in weapons, gambling, and drugs to cash in on humanity's less-than-glamorous qualities.

Fund Selection

Two of the most popular social index funds are the Vanguard FTSE Social Index Fund (2) and the Calvert Social Index Fund (3), available fee-free through Vanguard and Fidelity, respectively.  An exchange-traded fund from BlackRock, the iShares MSCI Socially Responsible ETF, tracks the KLD 400 Social Index directly (4).

These securities have performed very similarly over the last four years:

CSXAX has an expense ratio of 0.75%, while DSI is 0.50% and VFTSX only charges 0.29%.  If you're investing in these funds for philosophical reasons, however, then you should really be making the decision based on how you feel about the fund's holdings and philosophies.

Calvert is a Socially-Responsible Investment (SRI) company - they engage in significant amounts of policy and shareholder activism, and all of the funds they offer are designed to embody their SRI ideals.  Vanguard, on the other hand, is an index mutual fund company - their offerings simply track the performance of the underlying index.

To understand your options better, you need to read the inclusion criteria and shareholder action documents for the funds and, if an index fund, for the indices that they follow.  Calvert's funds, for instance, exclude companies involved in weapons production, gambling, tobacco, animal testing, predatory lending, nuclear power development, some forms of outsourcing, and other activities.  Some funds seek to exclude questionable companies entirely, while other funds purposefully own these companies to carry out shareholder activism.

Yes, socially-responsible investing requires much more effort and higher fees and may not offer real returns that are quite as good as simply buying a passive index fund that holds every kind of company.  If this is your priority, I doubt that will discourage you!

SRI Funds and Companies

Vanguard VFTSX (FTSE4Good Social Index) - http://www.ftse.com/Indices/FTSE4Good_Index_Series/Downloads/F4G_Criteria.pdf

Calvert CSXAX (Calvert Social Index) -
Shareholder Action - http://www.calvert.com/sri-engagement.html

More Perspectives on SRI

Investopedia: Socially Responsible Mutual Funds

Investopedia: Socially Responsible Stocks: Do Good Deeds Punish Profits?http://www.investopedia.com/articles/stocks/09/socially-responsible-investing.asp

Investopedia: Socially Responsible Investing Vs. Sin Stocks

Investopedia: Go Green with Socially-Responsible Investing

Investopedia: Green Funds for the Faint of Heart

SocialFunds: the largest personal finance site devoted to socially responsible investing

SmartMoney: Secrets of Socially Responsible Mutual Funds

US News Money: A Fresh Look at Socially Responsible Mutual Funds

Kiplinger: 5 Mutual Funds for Socially Responsible Investors

(1) FTSE KLD 400 Social Index - http://en.wikipedia.org/wiki/FTSE_KLD_400_Social_Index
(2) Vanguard FTSE Social Index Fund (VFTSX) - https://personal.vanguard.com/us/funds/snapshot?FundId=0213&FundIntExt=INT
(3) Calvert Social Index Fund (CSXAX) - https://fundresearch.fidelity.com/mutual-funds/summary/131582785
(4) BlackRock: iShares MSCI Socially Responsible ETF - http://us.ishares.com/product_info/fund/overview/DSI.htm
(X1) Wikipedia: sunflower image - http://en.wikipedia.org/wiki/File:Sunflower_(Green_symbol).svg