The Free Market 15, no. 11 (November 1997)
Making lots of money is evil say the politically correct. It's sleazy, socially destructive, and almost always immoral, unless profits are given away to left-wing lobbying groups. Typical of this trendy disgust with getting rich through capitalistic means is Socially Responsible Investing (SRI), a nebulous set of investing standards embracing a host of "progressive" political causes.
Indeed, those who invest their money in mutual funds that follow these standards don't have to worry about making too much money. That's because most Socially Responsible funds normally lag benchmarket indexes—like the S&P 500—and usually trail most other funds.
SRI funds promise nice returns, competitive with other funds. But they also say they can get big returns while avoiding supposed morally objectionable companies and investing in good ones. However, the charters of these funds tie the hands of managers who are often forced to bypass profits as a matter of principle.
The whole concept of SRI is confusing. What is acceptable today might be controversial tomorrow. For example, the government once gave away smokes to soldiers, but tobacco now ranks at the bottom of the socially responsible ranking of investments.
The best managers don't use SRI criteria because it hurts performance. Donald Yachtman, manager of the highly successful Yachtman Fund, has returned some 25 percent a year over the past three years. He makes a point out of buying politically incorrect stocks. His top recent holding: Philip Morris.
It's easy to see why SRI funds so frequently perform badly. Fund managers are told to avoid some or all of the following: tobacco and liquor stocks, gaming stocks, companies that lack a sufficient percentage of women and minorities in executive positions, and companies without unions.
Strictly enforcing these standards forces managers to pass up many of this nation's better money-making companies, as well as opportunities in emerging market economies which are embracing capitalism. Shareholders in these SRI funds are shortchanged.
The Calvert Group, a fund company complex, is the SRI champion. No fund company has more SRI funds. Its officials clog up the fax machines of financial journalists with a myriad of releases bragging about the company's wonderful work for the environment and gender pay equity, complete with endorsements from liberal politicians.
One press release reads: "Calvert Group has been repeatedly recognized by Working Mother magazine and Personnel Journal for its workplace practices." Instead of stressing performance, the release brags that "in February of this year, President Bill Clinton singled out Calvert Group for the firm's aggressive implementation of family leave provisions for working parents."
That's nice. Now what about "working parents" who put their money in a Calvert fund? Then, the story isn't so nice. Calvert has obtained lousy returns for its shareholders. Aren't the shareholders the ones who are supposed to count the most? Apparently, presidential commendations are more important.
A typical Calvert prospectus says the fund invests in companies "that make a contribution to society through their products and services and manner of business." Let's hope, because Calvert funds haven't been making much of a contribution to their shareholders.
Through the middle of August, Calvert stock funds for the year range from up 22.9 percent to down 14 percent. This comes in a period when the market—as measured by the S&P 500—was up some 26 percent, when almost anyone, including monkeys throwing darts, could make a load of money. What does the adviser tell them? "Don't worry. Your fund manager is enjoying gender pay equity."
Having Clinton endorse Calvert Fund won't help these shareholders pay for their retirements or finance their kids' higher education or buy their first home. Making matters worse, many Calvert funds carry loads, which are sales charges. Some even carry 12b1 fees, the most notorious ripoff in the fund industry. How socially responsible is it for Calvert to double and triple charge investors for funds they can get elsewhere without these charges? All these loads and extra charges are great for the fund company, but terrible for the investor.
ValueLine, a fund-monitoring company, gave the Calvert funds poor ratings in a 1996 survey. Using a scale of one to five, with five the worst and one the best, Calvert's general equity funds received a 4.0 rating. Its international equity funds are even worse. The rating was 4.8, according to ValueLine. Besides that, Calvert, for the third year in a row, has made Smart Money magazine's dysfunctional fund family. Don't look for any of this in Calvert's press releases.
Still, Calvert officials keep harping on their commitment to gender pay equity, which is a ridiculous idea given that we are all individuals, at various stages of our careers, and therefore our worth to the company varies tremendously. "In some categories, women employed by Calvert Group actually make more than their male counterparts," according to a company release.
But what has this to do with getting strong returns for the investors? Most people couldn't care less who is running their money, provided the person is doing a good job. Peter Lynch and John Templeton became popular not because they are male; they became popular because they never forgot that their investors were depending on them to make money.
The key reason for Calvert's poor returns are the political criteria used for Socially Responsible Investing. If we followed this theory to its logical conclusion, we'd look askance at almost every for-profit operation.
For example, if SRI investors want no part of tobacco and booze stocks because they're selling unhealthy products, why not also boycott companies that make millions selling high-fat premium ice creams (like the heavily ideological Ben and Jerry's)?
How about soft drinks? Why aren't SRI companies blacklisting them? All that sugar and caffeine are awful. And why no protests against coffee companies? And surely nothing is worse for the soul than television, which rots people's brains to boot. Why not shun investments in entertainment generally?
Too much of almost anything can be bad for someone at some time in his life. Any successful business can generate a debate about "obscene profits." The portfolio manager who agrees to go along with SRI will face ever more restrictions. He will fail for lack of a consistent strategy focused on profits.
This is far from accidental. It reflects a fundamental problem at the core of investing based on socialist rather than economic criteria. When people like Clinton argue for policies like extended family leave, quotas in the workforce, and high tolerance for union organizing, they always hasten to add: "it's good business."
The truth is, putting supposed social concerns above profit is not good business. It cripples the firm, forces hiring and promotion decisions on factors like race and sex instead of productivity and skill, and puts the welfare of aggregates like "the environment" ahead of real people. In short, it attempts to subsidize firms made in the image of failed social democratic governments, while pretending to retain market standards of profitability.
But the SRI movement finds its rationale, not in economics, but in psychology: it is a failed attempt of the socialist mentality to come to terms with the overarching reality of capitalism's success. Besides, profitability and social consciousness are not in conflict. When any company makes a profit, it is serving society's economic needs. It allows for the expansion of capital investment, and thus jobs and opportunities for all. True social consciousness should focus on the bottom line.
But SRI funds do point the way to solving a myriad of political debates in this country. Whenever a politician suggests a new tax, mandate, or regulation on business, let's first try it out on one of these "Socially Responsible" companies, purely on a voluntary basis. Let it pay higher taxes, insurance premiums, and wages, while adopting ever more rigid quotas and union rules. Then we can watch what happens to its stock price relative to everyone else's. Any takers?
Gregory Bresiger is a financial journalist in New York.
FURTHER READING: "Socialism as an Emanation of Asceticism" and "Ethical Socialism" in Ludwig von Mises, Socialism (Indianapolis, Ind.: LibertyClassics, 1981 [1923]), pp. 364-68; 388-98; and How To Pick the Best No-Load Mutual Funds for Solid Growth and Safety by Sheldon Jacobs (Irwin Professional Pub., 1991).
