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July 23, 2002
SRI Mutual Funds Will Endure the Crisis in Confidence
    by William Baue and Mark Thomsen

Socially responsible mutual funds are different from other mutual funds, and those differences help SRI mutual funds achieve competitive returns over the long term.


The recent crisis in confidence elicited by the string of corporate governance scandals from Enron to WorldCom may inspire investors to seek investments that have demonstrable integrity. But investors traditionally focus their attention on companies' financial performance and as a result may overlook other potential indicators of integrity.

Socially responsible investment (SRI) mutual fund managers assess corporate social and environmental performance in addition to financial performance. Robert Gynn is an editorial analyst at Morningstar, Inc., an independent investment research firm. Mr. Gynn said that while all fund managers want to know everything they can about the companies in their portfolios, SRI mutual fund managers generally have a better overall picture of a potential investment.

"Managers who employ such a filtering process, even before looking at the financial end of things, certainly have the opportunity to see a potential investment from another perspective that can provide them with a panoramic view of a particular company," said Mr. Gynn.

As is true for all investors, socially responsible mutual fund managers are taking steps to avoid investing in companies with questionable accounting practices. Pax World Funds, for example, is now looking for much more transparency in company financial statements. It is also supporting new and stricter regulations regarding transparency.

"We are lobbying regulators, such as the SEC and New York Stock Exchange, and various members of Congress for better disclosure in all areas," said Anita Green, director of social research at Pax. "Those areas include accounting issues, executive compensation as well as environmental and social risk."

Studies continue to show that mutual funds that consider social and environmental factors in the investment process generate competitive financial returns. According to research conducted by Morningstar earlier this year, for example, 33.3 percent (15 out of 54) of SRI mutual funds earned either four or five stars (a four to five star rating means a fund is performing better than 77.5% of all similar funds). When all mutual funds are considered, only 32.5 percent earned four or five stars.

Socially responsible mutual funds can do well over the long term too. One of the best known SRI mutual funds, the Domini Social Equity Fund (ticker: DSEFX), has produced solid financial returns over the past decade. A large-cap fund that tracks the Domini Social Index, the Domini Social Equity Fund has generated annualized returns of 11.08 percent over the ten-year period ending June 30, 2002, according to data provided by Weisenberger.

The Parnassus Fund (PARNX), which invests in small and medium cap companies, stands out in terms of financial performance. The Parnassus Fund has generated annualized returns of 12.30 percent over the ten-year period ending June 30, 2002. Jerome Dodson, president of Parnassus and manager of the Parnassus Fund, believes that investing in good corporate citizens makes sound financial sense.

"A company with an effective environmental protection policy, for example, is less likely to be sued or fined by the government," said Mr. Dodson. "Similarly, a company with good employee relations will have greater internal harmony and be more productive as a business."

Different socially responsible mutual funds incorporate environmental and social factors into the investment process in a number of ways. Many SRI funds employ positive screens, which seek companies with exemplary social and environmental practices. For instance, Portfolio 21 (PORTX)is a global equity fund managed by Portland, Oregon-based Progressive Investment Management that chooses the best practitioners of sustainable business strategies in different industry sectors.

"The goal of Portfolio 21 is to identify those companies that recognize the deepening ecological crisis and are positioning themselves to benefit from a new approach to business," said Portfolio 21 cofounder Carsten Henningsen. "Today, we are only about 1 percent efficient on materials and energy use. The huge gap between 1 and 100 percent comprises a tremendous investment opportunity."

One of the largest SRI mutual fund families, Portsmouth, New Hampshire-based Citizens Funds, performs a thorough traditional financial analysis in between the two steps of the social and environmental screening process it applies to all its funds. Citizens first employs exclusionary screens to separate out companies that derive revenue from tobacco, alcoholic beverages, nuclear power, weapons manufacturing, or gambling. Citizens also excludes companies that do not have at least one woman or person of color on their board of directors. The second step, a positive social and environmental screen, seeks to identify companies with useful products, a history of environmental stewardship and a history of good employee and community relations.

The Green Century Funds, which offers the Green Century Balanced Fund (GCBLX) and the Green Century Equity Fund (GCEQX), also uses positive and exclusionary screens in its investment process. Green Century Funds is unique among SRI mutual fund firms because it is wholly owned by nonprofit environmental organizations. So while earning returns for investors, the funds also contribute profits from management fees to support groups that advocate for a cleaner environment.

SRI funds can differentiate themselves from other mutual funds in two other ways. One is shareowner action. Many SRI funds engage companies in dialogue and sometimes file shareowner resolutions with the goal of helping companies improve their social and environmental performance. A growing number of SRI funds are also allocating fund assets to community investing. Community investing is investing in distressed urban and rural communities that are often underserved by traditional financial institutions.

SRI mutual fund managersí panoramic view of the diverse factors contributing to corporate integrity has helped SRI funds build a solid track record of competitive financial returns. The assessment of corporate social and environmental performance, in addition to the traditional financial performance, make SRI mutual funds well positioned to deliver competitive returns into the future.

 

 
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