Rules of the Game: Responsible Investing

 | Jun 14, 2013 | 11:00 AM EDT
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I'll admit it. For years, I was a socially-responsible skeptic. What I mean by that is: I was not impressed by the lackluster returns found in so many of the feel-good socially-responsible investments available.

I felt they were mediocre products, created to pander to the growing class of investors who want to ensure they have enough money for retirement, but also want to make a positive contribution to important social causes and the environment.

Well, I've become less of a skeptic lately. Part of the reason, no doubt, is because I moved to Santa Fe a few years ago, and I'm now surrounded by plenty of people for whom social consciousness is at the center of their lives. Like other Americans, these folks are concerned about sustainability in their non-working years, as well as sustainability of the environment.

I've begun recently to explore some of the socially-responsible offerings that seek to offer sound investment returns along with a portfolio of stocks that meet stringent screening requirements. For today's progressives, screening issues can include the production of landmines or weapons, unfair labor practices (including child labor) or business with certain unsavory regimes.

Obviously, by eliminating companies through a strict screening process, you also reduce the potential for diversification. In addition, many high-performing stocks don't make the cut. Those are a couple reasons why many of the socially responsible and sustainable funds underperform.

As many of the readers know, I generally prefer ETFs to mutual funds, for a variety of reasons. They are more cost effective and trade during market hours, unlike mutual funds. In addition, more than 80% of mutual fund managers can't beat the S&P 500 in any given year.

But that doesn't mean I have given up entirely. One fund from the socially responsible arena that I have been eyeing is the Dimensional International Social Core Equity Fund (DSCLX). This is a new fund, which made its debut just last year -- so we don't have that three-to-five-year track record (at a minimum) that many investors seek. Like all Dimensional funds, it's only available through advisors, not over the counter.

The fund focuses on developed markets, with an extra emphasis on value and small-cap stocks. The most heavily represented regions are the United Kingdom, Western Europe, and Japan.

You may or may not be surprised, but the top holdings are not a bunch of unknown, third-rate companies that would make a hard-nosed trader chortle. The fund holds heavy concentrations in companies including British bank HSBC (HBC), BP (BP) (environmentalists might bristle at that choice, but there are other funds geared toward sustainability), Vodafone (VOD), Royal Dutch Shell (RDSA), Mitsubishi Financial, Zurich Insurance, Allianz (AZSEY), Banco Santander (SAN), Australia and New Zealand Banking Group, and Westpac Banking (WBK).

In addition to the social screens overlaid onto the investments, it's crucial to screen quantitatively for fundamental characteristics.  In my judgment, too few socially responsible fund managers have rigorously applied quantitative screens to their stock picks.

No fund is a perfect cure-all for all the social ills that bother us. After all, this DFA fund contains dirty oil companies -- something devoted environmentalists wish could instantly be replaced by windmills and solar power. But if it's possible to make incremental improvements to your actual portfolio and stick to your investment philosophy that will bring you the desired results, that doesn't sound bad.

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