Values-based investing grows up

The socially responsible investing movement has come of age.

After years of offering limited options, the industry now gives even small investors enough choices to spread their holdings around without necessarily giving up performance. For the first time, anybody can build a diversified portfolio of companies they believe in.

"There is an incredible amount of evidence that socially responsible investors do not pay a conscience tax," says Tim Smith, director of socially responsive investing for Walden Asset Management in Boston.

True, the best-known index of socially responsible companies, the Domini 400 Social Index, has lagged behind the Standard & Poor's 500 Index (a 13.7 percent loss vs. a 9.5 percent loss for the S&P 500 through Nov. 30). That raises the question of whether a socially responsible strategy can hold up amid the struggles of some key firms. Still, the Domini index remains ahead in long-term performance. At the end of November, it had outperformed the S&P 500 in three-, five-, and 10-year comparisons of returns.

Social investing means buying shares of companies that embody your values. Don't want to invest in companies that produce nuclear power or military weapons? Many socially responsible funds screen out those industries. Eager to avoid companies involved in tobacco, alcohol, and gambling? Many funds screen those out, too.

And with all the new funds available, you can get really picky. Want to avoid cigarettemakers at all costs, but have no objection to nuclear power? The Dreyfus Third Century Fund (800-373-9387) screens out tobacco, but not nuclear-power companies. If you want natural gas, telephone, water, and electric companies with good environmental records, take a look at Flex-fund's Total Return Utilities Fund (800-325-3539).

But if it's corporate America's "glass ceiling" you aim to shatter, try the Pro-Conscience Women's Equity Fund (888-552-9363), which focuses on the advancement of women in the workplace.

The American Trust Allegiance Fund (800-385-7003), a top performer, avoids pharmaceuticals as well as tobacco, liquor, and gambling.

"There's been tremendous growth in the number of mutual funds," says Jay Falk, president of SRI World Group, a Brattleboro, Vt., firm that runs the SocialFunds.com Web site. "It's quite possible to create a portfolio that has the kind of diversity that people are looking for." His company's site lists 72 mutual funds.

What's more, socially concerned investors can spread their holdings to reduce risk, just as any investor would.

For example, money managers typically recommend that clients invest in large and small companies, foreign as well as domestic. Many managers also suggest holding companies poised to grow quickly (so-called growth stocks) and those with strong underlying value (so-called value stocks).

Finally, most say, put a portion of your money into bonds or money-market funds.

By diversifying this way, you can take advantage of big run-ups in certain sectors of the economy with far less chance your entire portfolio will head south when one sector collapses. If you want to diversify in this way, here are some useful picks:

Among large-cap growth funds, consider American Trust Allegiance, Noah Fund (800-794-6624), or Citizens Core Growth (actually a blend of growth and value stocks). In each of the past three years, they averaged anywhere from a 15.7 percent to a 21.5 percent return though Dec. 5. The S&P 500 was up 13.3 during that period.

There are fewer socially responsible choices among small-cap growth funds. Calvert New Vision Small-Cap Fund (800-368-2748) has so far shown lackluster growth, and Citizens Small Cap Core Growth Fund (800-223-7010) is awfully new. If you don't mind moving up to mid-size companies, try the highly rated Bridgeway Aggressive Growth Fund (800-661-3550) or Citizens Emerging Growth Fund, both top performers.

There are only one or two true socially responsible funds that invest in large-cap value stocks (at least by fund-tracker Morningstar standards). The best performing: Parnassus Equity Income Fund (800-999-3505). If you don't mind funds that blend growth and value stocks, Dreyfus Third Century and Calvert Social Equity boast the best three-year records.

It's much the same story for socially responsible small-cap value funds. The Ariel Fund (800-292-7435) and Bridgeway's Ultra-Small Company Fund have earned three out of five stars from Morningstar (although the ratings company calls Ariel a value-growth blend). Bridgeway's Ultra-Small Index Fund remains a step behind in performance.

Among international funds, consider high-flying Citizens Global Equity Fund (which averaged a 24.1 percent annual return over the past three years). And for the income portion of your socially responsible portfolio, try Eclipse Ultra Short Term Income Fund (800-872-2710) for short-term bonds and Aquinas Fixed Income Fund (800-423-6369) for long-term bonds. Pax World Fund (800-767-1729) and Calvert both offer money-market funds with good track records.

Of course, social investing requires some compromises. Most portfolios will be underweighted in certain sectors, such as aerospace (because of military concerns) and transportation (because of environmental worries). And they often have to put up with less-than-perfect companies that, say, have an exemplary environmental record but little diversity at the executive level.

"Social investors [are] very accustomed to dealing in grays," says Peter Kinder, president of Kinder, Lydenberg, Domini & Co., which manages the Domini index. "They understand that there's no such thing as a white-hat company."

For example, investors wanting exposure to the oil industry but wary of backing a polluter could use a substitution strategy, points out Steven Schueth, president of First Affirmative Financial Network, a Boulder, Colo., company representing social-investment professionals around the country.

Instead of oil, investors could pick oil-equipment companies, which don't directly pollute the environment. Is that socially responsible? Only the individual can answer that, investment experts say.

People wanting more direct involvement in social causes can try community investing. By putting money into community-development financial institutions, which make loans in disadvantaged neighborhoods or even countries traditional banks shy away from, the world's poorest people get access to capital. While the returns range typically from 0 to just 5 percent, the potential good they do might be reason enough to invest.

Other social investors actually buy "bad" companies with the idea of pressing for change at shareholder meetings. Shareholder resolutions rarely pass, but often just the threat of one can get policy changed.

"It's exceedingly important" and perhaps more effective than street demonstrations, says Mr. Smith of Walden Asset Management. "Some companies respond to the shareholders more than they do to people in the street."

(c) Copyright 2000. The Christian Science Publishing Society