Why socially responsible funds are behind this month

IF I'm investing in good companies, why is my social portfolio lagging the market?

Ethical investors usually do about as well as traditional investors, research shows. But that's not the case this year. The Domini Social 400, the best-known index of socially responsible firms, has fallen about 2 percent, much more than the Standard & Poor's 500 Index, which is virtually even for the year. There's a reason, says Eric Packer, Boston-based investment adviser with Progressive Asset Management, the socially responsible division of Financial West Group. Here are excerpts of his comments:

Q: Why was June a down month?

Mr. Packer: We're looking at some really major problems in the economy. We're looking at the shock of oil prices. We're looking at consumers who've been concerned about a lot of the prices for their food, their energy. And also there's a little bit of concern about not knowing where interest rates are going.

Q: Why is the Domini 400 down for 2005 while the S&P 500 is at break-even?

EP: One of the problems is that the energy area is underrepresented in the Domini. And it's also not in tobacco. There was a recent change in the [federal government's] tobacco litigation, where it was originally [asking] $130 billion. It looks like they may be settling for $14 billion. So it's been a very good last few months for tobacco.

Q: Is the lag temporary?

EP: If you take a look at the longer-term performance of the Domini, a three-year and a five-year period, you're looking at pretty much parity. In fact, there are certain periods of time where the Domini has slightly outperformed the S&P 500. We believe if you have that long-term perspective ... we feel they're going to have further parity.

Q: Why are some ethical mutual funds moving into areas they previously shunned?

EP: That's a fairly new phenomenon. Historically in social funds, you had something called avoidance. There were problematic areas - it could be energy, it could be defense contractors, it could be consumer products. But what we're finding now is that there are certain areas, particularly energy, where some social fund [managers] feel they can use a best-of-class approach.

Q: Best of class? Who wouldn't want that?

EP: It's somewhat gray. Here's a way you can include a problematic area in your portfolio but feel you're investing in a best-of-class company [that's not in a great industry but at least operates more responsibly than its competitors].

Q: We also are seeing new niche funds.

EP: Sometimes, we'll have clients who say 'I want to really feel the companies I'm investing in are making a difference. Avoidance isn't enough. I want my companies to be more proactive.' One fund particularly that we think is exciting is New Alternatives.

Q: What do they invest in?

EP: Smaller [energy] companies, companies on the cutting edge [that] are looking at wind power, solar, geothermal. They're looking at how energy can be transmitted more efficiently. They might even be investing in some of the technology for hybrid cars, which is a very exciting story now.

Q: Because New Alternatives is investing in such a small niche, does that mean it's going to be volatile?

EP: Absolutely. A fund like New Alternatives is designed to be a small part of your portfolio. A general guideline, for my more growth- oriented clients: Up to maybe 10 percent could be appropriate. For some of my more conservative clients, we could say maybe 5 to 8 percent.

Q: We've also seen more international ethical funds. Which ones stand out?

EP: The one I'm very partial to comes from Calvert, which is the largest family of socially responsible funds. Their fund is the oldest one in that arena. What they've been able to do is take a look at certain companies particularly within Europe, where a lot of social investing has been centered; Japan, to a lesser degree, Canada. We feel that they're very good at picking companies within those areas that have been performing well but also role models for what we call good, solid corporate governance.

Q: What's the fund called?

EP: Calvert World Values.

Q: And how have they done?

EP: Over the last year, they were up about 9.8 percent. But let's stand back a little bit. Over the last three years, they're up over 9 percent per year.

Q: Are there enough ethical funds to build a diversified portfolio?

EP: I've been in the business 12 years. When I first started, it was a much more limited universe. At that point, we had probably 10 to 12 funds. We now have over 50 different funds. So it means you can have that diversification.

Q: What about ethical bond or money-market funds?

EP: There's a new fund [CRA Qualified Investment Fund] that's been doing community investing. They're investing in community development groups and banks that are taking the money and lending it back to the community. So it's a way that you can have that conservative, fixed-income part of a portfolio, but you're making a difference where the money goes.

Q: What's your summer forecast?

EP: I think we're going to be looking at a difficult, challenging summer. We're probably going to be seeing $60 [a barrel] oil before we see $40 oil. Interest rates continue to weigh on the markets. And the other thing we're going to be concerned about is going to be the earnings of companies coming up. There's some uncertainty in that area. You want to be careful.

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