Socially Responsible Investing 101 (2024)

As more attention is placed on our environmental impact, global health, and corporate responsibility, so too has there been more emphasis on where investors place their money in support of their belief or cause.

While making money to meet future goals is the most crucial aspect of wealth planning, many people are wanting to invest in issues that matter to them, hoping that they can make the world a little better for those who live in it.As of year-end 2017, more than one out of every four dollars under professional management in the US was held in socially responsible investments¹.

This emotional and philosophical attachment between a person’s money and their values was the driving force behind the first publicly available mutual funds created in the early 1980s. The initial focus placed emphasis on the exclusion of weapons, alcohol, tobacco and gambling, as well as filters for nuclear energy and environmental pollution. As awareness became more commonplace in the market, we found a significant rise of demand for these vehicles as both investors and investment managers began to focus on aligning their strategies with personal values.

While this approach may support adherence to your values, the typical rules still apply to investing. As shared with clients of Lucid Wealth Planning, a strong investment strategy has these seven components:

1. Keep investment fees as low as possible without affecting the integrity of the strategy
2. Keep investments in line with your core values and social objectives
3. Do not purchase investments based on their past performance
4. Use passive investments in efficient markets
5. Use active investments in markets that lack transparency and governance
6. Rebalance strategically with a key focus on your personal goals and lifestyle objectives
7. Minimize tax implications to the fullest extent possible

Due to the fundamental beliefs you may have around the investment you hold, it’s equally important to reduce emotional investing to the fullest extent possible.

So, for investors who are interested in trying their hand at sustainable investing, below are five tips to help you get started.

1. Understand “Sustainable Funds”

What used to be referred to as "socially responsible" or "socially conscious" funds are now referred to by many names. Sustainable, socially conscious, green investing, impact investing, and ethical investing are common references you may encounter. A large portion of these are often categorized under the term “environmental, social, and governance” investing, or “ESG.” As of 2018, the top specific ESG criteria for money managers included climate change / carbon emission, tobacco, conflict risk (terrorist or repressive regimes), human rights, and transparency / anti-corruption².

The good news is that these funds are numerous and diversified, making it a lot easier for investors to make them part of their portfolio. Reviewing all your investment options is unlikely to be an exciting experience however, as the list of available funds seems to grow by the day. I recommend you start your search at the U.S. Forum for Sustainable Investing. Here you can find no-load funds that might correspond with causes you hold dear as well as a host of other information that may be of interest. You can also consult with your financial planner who can match you with funds that meet your sustainability goals while simultaneously aligning the strategy with your long-term financial goals.

It’s important to know that not all sustainable funds are created equal; some are more tax efficient than others, expense ratios vary from one fund to the next, and you can find both passively managed funds as well as active. When considering the funds to use, don’t forget to overlay the seven components of a strong investment strategy previously listed.

2. A Diversified Portfolio Is Key

A common mistake that many investors make when investing in sustainable funds is concentrating the bulk of their portfolio in a specific industry. They do this to ensure that all their investments go towards companies that share their social vision. This is problematic due to the concentration risk. This is the risk that your portfolio is concentrating all the funds into one group, and if that group experiences some ups and downs you could end up losing much of the investment.

Make sure that the funds are diverse and spread out over some higher, medium, and lower risk investments. You should find ample availability of ESG focused mutual funds and ETFs that cover stocks and bonds, both with international and domestic exposure. This will help create a solid core for your portfolio and provide some stability and means to continue to build wealth.

3. Sustainability Is Among Many Factors To Consider

The next step towards sustainable investing is deciding which funds to build a portfolio with. Those new to sustainable investing may primarily put their focus on companies whose social performance and social cause is what resonates with them.

While an important part of sustainable investing is choosing funds where you feel your money will have a positive impact in society, you also need to make sure that your portfolio is designed to align with your existing financial plan. This may mean building a portfolio geared towards growth, or rather a portfolio designed to provide income. A few criteria you can apply include:

• Management – How long has the management team run this fund? Do they have their own wealth invested alongside the fund holders? What has been their track record?
• Philosophy – Does their approach and philosophy align with your own? Are they geared up for growth, value, or income?
• Turnover – A high amount of turnover within a fund generally results in higher tax implications. What is the fund turnover rate?
• Expense Ratio – This is the cost for managing the fund. It includes everything from analyst salaries to the cost of office leases. Each dollar expensed is one less dollar distributed to shareholders. Is the fund able to keep its expense ratio low?
• Criteria – What criteria does the fund use to filter its ESG preference? Have they changed their criteria in the past?
• Goals and Risk Tolerance – Does this fund contribute to the diversification needed to accomplish your financial plan? Does it carry too much risk? Too little?

4. Continually Monitor Your Funds

A vital step in sustainable investing is making sure the funds are performing up to expectations, as well as remaining in line with your preference and expectations. Make sure that all the work that went into selecting the right funds does not go to waste by failing to properly monitor the fund activity.

This will help you determine which funds are worth owning and which ones may be better to trade out for new ones. As discussed in my article 4 Simple Strategies to Reduce Emotional Investing, you’ll want to resist the urge to check on your funds too frequently (daily, weekly or even monthly). Every three to six months is the perfect period between check-ups.

If you’re working with a financial planner, they will be able to provide regular reports on how funds are performing and provide advice on steps that might be beneficial.

5. Always Make Adjustments With The End In Mind

Helping to promote social change by investing in companies that have similar social goals as you is crucial to sustainable investing. Yet, it’s also important to remember that sustainable investing is still about investing. Your end goal is as unique as you are, but it’s likely that college costs, retirement, buying a new house, and paying off debt all drive the decisions you make.

If you have a changing life event, or a change in your goals, don’t be afraid to make changes in your portfolio. The good news is, there are plenty of sustainable funds to invest in, so finding another good cause should not be difficult.

In Conclusion

You don't need to be an expert to be able to embark on the path of sustainable investing. The resources are limitless with regard to educating yourself and aligning your investment strategy with your views of social responsibility has never been easier.

Sustainable investing isn’t for everyone. Choosing to exclude tobacco, alcohol, and guns (for example) means that you also won’t be able to profit from these industries. If you’re comfortable with the opportunity cost of not participating in these companies, sustainable investing may be just right for you and your portfolio.

¹ https://www.ussif.org/sribasics

² https://www.ussif.org/files/Trends/Trends%202018%20executive%20summary%20FINAL.pdf

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