What is socially responsible investing?
Socially responsible investing is the attempt to limit portfolio holdings to firms whose operations are consistent with your sense of social propriety. You may want to deny money to the tobacco industry, utilities with nuclear power plants, perhaps food processors utilizing genetically modified products. Egregious polluters might be verboten. A socially responsible strategy seeks to maximize returns with securities still available after irresponsible firms are eliminated from consideration.
You can invest in socially responsible mutual funds and/or exchange traded funds. You can also develop your own portfolio of acceptable individual stocks. With so many thousands of companies to choose from, keeping sin out should not be too difficult, right?
Why you should avoid socially responsible investing
Limitations retard performance
Good investing is a process seeking maximal returns at an appropriate level of risk. Whenever you apply an artificial barrier, you hinder your ability to achieve those returns. In practice, socially responsible funds have performed worse than their unhindered peers. This is true of managed products and index-based products, as demonstrated in Figure 41-1.
Few companies are purely good or evil
While you may not condone the particular activities of certain companies, the operations of these firms are not illegal. Meanwhile there are many “socially responsible” firms whose officers and employees have committed crimes in the supposed service of shareholders. Bribes, false claims, price-rigging, employee abuse, sexism, and other immoral, often illegal practices occur in many firms found within socially responsible portfolios. At the same time, how and where do we draw lines? Accepting the harm to health of smoking, should we consider the impact on health of sugared cereals, fatty foods and soda? Should oil companies and utilities with nuclear plants be derided while socially ‘acceptable’ firms who waste energy are praised?
Sharks take advantage of your good will
Wall Street firms who are smart enough to know the damage of inhibited investing nonetheless created socially responsible products to take advantage of your good will. Brokers profit from the sale of such products while they simultaneously assist the growth and finances of ‘sinful’ companies.
More broadly, the revenues and profits earned by any firm depend on the people who buy the products and services; not on those who own shares of stock. Socially guided investing has no effect on the behaviors considered irresponsible; it only steers outsized profits from those who care toward those who don’t.
What you should do instead
First, stand up for your beliefs. If so inclined, guide loved ones toward healthy products. Support laws and lawmakers devoted to positive change, however you define it. Join boycotts and directly lobby firms to foster progress.
As for investing, your wellbeing is best served when you remain purely logical. If you hold socially responsible funds as part of a portfolio with which you are otherwise happy, you can immediately improve prospects by selling those holdings and replacing them with low expense, no-load index mutual funds or ETFs.
If socially responsible holdings represent your entire investment regimen, click here for an ethical, logical, return maximizing route.
* Data source: The Vanguard Group, Inc.