What is socially responsible investing?
Socially responsible investing or SRI integrates the aspects of investing in good companies and practicing the behavior of creating an ethical and positive impact on the society and environment. As per investment basics, when it comes to investing, the primary parameter that an investor looks at is the fundamentals of a company. On the other hand, social responsibility investing includes looking at multiple aspects such as consuming sustainable products, focusing more on reusable resources, etc. While practicing socially responsible investing, you are given the opportunity to invest your money in companies that are actively engaged in solving issues like climate change, environment suggestibility, etc.
To understand how companies adopt socially responsible actions in their business, let us consider an example of Company ‘XY’.
‘XY‘ is a beverage manufacturing company that focuses on making its manufacturing and supply process more environmentally friendly and socially responsible. It performs this by replacing its traditional gasoline-consuming vehicle fleet with electric vehicles. Plus, it fulfills its energy needs from renewable sources such as solar and wind power.
In this way, companies can become socially responsible by integrating. The use of renewable and sustainable methods into their business model.
What are socially responsible mutual funds?
Socially responsible funds are mutual funds that hold securities of companies that adhere to benefit the society and environment. These companies focus on generating a positive impact on society by adopting sustainable methods. And by not producing goods that are harmful to the environment or society. For example, businesses that are involved in gambling, manufacture of weapons, tobacco, and alcohol are considered as sinful investment categories and are eliminated from the SRI list.
Why are these funds popular among investors?
Investing in a socially responsible fund not only gives you access to fundamentally good companies. But also provides a mental peace of investing your money towards a noble cause.
Although socially responsible funds are relatively new, they have gained enormous popularity in recent years. Investors are really interested in SRI and ESG (Environmental, Social and Corporate Governance) which is reflected by the increased inflows in such schemes.
In the U.S, more than $17 trillion was managed in sustainable investment strategies in the year 2019. This was a 42% jump from $12 trillion in 2017.
Investing in socially responsible funds is not only limited to retail or high net-worth individuals. But other institutions such as hospitals, schools, religious institutions, venture capitalists invest in such funds. Additionally, the increasing awareness related to climate change and global warming among investors has also increased the demand for such funds.
SRIs are not only limited to a particular theme. But you can select any particular theme based on your moral values and invest in them. Some of the most prevalent SRI themes include green energy, gender & racial equality, climate action, etc.
Are socially responsible mutual funds good?
By looking at the overall picture it might seem that after following additional ethical. And social standards, these funds might not offer adequate returns. But this is not accurate. Studies show that the majority of socially responsible and environmentally sustainable funds are able to outperform the stock market index.
Research conducted by Morgan Stanley shows that the returns of sustainable funds are well in line with traditional funds and the stock market index (S&P 500 in this case), and also provide a lower downside risk to investors.
Several other studies have shown that socially responsible mutual fund investing not only matches the returns of non-SRI mutual funds but sometimes outperforms them. Despite the studies which show. SRI mutual funds are better than the rest of traditional funds, there are some downsides as well. SRI mutual fund investing involves a steeper cost attributed by the higher expense ratio of these funds. Nevertheless, there are multiple funds that charge a nominal expense ratio. So if you look out for some of the most economical funds, you will be able to discover them.
Bottom line
By investing in socially responsible funds, you get the ‘best of both worlds’. Initially, you are able to invest your money in sustainable and socially responsible companies. And also able to get superior returns when compared to traditional mutual funds. On the other hand, if you try picking individual SRI companies, it can get tricky. Categorizing organizations into socially responsible ones can be challenging and time-consuming. On top of that, several companies might fall under the socially responsible category but to find the one according to your need might be tough.
Therefore, by taking the mutual fund investing route, you get the benefit of diversification. Mutual funds invest in multiple SRI companies which results in distributing the overall risk and the ability to get exposure into multiple, best-in-class companies with even a small capital.
Therefore, begin with identifying your values and then find a fund that aligns with your needs. Once you have performed your research, look at the costs associated with the fund like expense ratios and exit loads. Also, remember to not allocate your entire capital in a single fund but distribute it among a couple of funds to benefit from diversification.