What is socially responsible investing? Is it profitable for the investor? This guide explores everything there’s to know about socially responsible investing.
Socially responsible investing is an approach that most investors are now embracing. In fact, according to a survey conducted in 2019 by Morgan Stanley, 85% of individual investors showed interest in sustainable investing, which was an increase from 75% in 2017.
This approach has evolved as a thematic mechanism to investing to accommodate socially conscious people’s concerns. It lets you put your money in businesses that are practicing what you believe brings positive social and environmental impact to the world in addition to financial returns.
Since people have different views on what ‘socially responsible’ is, it can take different forms. However, the core objective is to tie financial markets’ power and positive impact into the world.
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What is Socially Responsible Investing?
Socially responsible investing (SRI), also referred to as a social investment, seeks to generate ‘positive’ social-environmental and financial returns.
Therefore, SRI investors not only pick investments based on financial metrics like performance, profits, or expenses, but they also consider if the business practices of those companies they invest in align with their personal beliefs and values.
But since values differ with each individual, the definition of SRI varies from one person to another. But, it boils down to making investments with your conscience as your guide.
SRI is a term also used more generally to consist of more proactive practices like impact investing, community investing, and shareholder advocacy.
And the core areas that SRI practitioners consider are sometimes summarized under ESG issues: environment, social justice, and corporate governance.
Which of the Following Accurately Describes Socially Responsible Investing?
The debate between what is and what’s not socially responsible investing never seems to end. According to proponents of SRI, the approach means that the investors eschew making investments in companies they believe promote and sell addictive substances like (gambling, alcohol, tobacco, pornography), and potentially harmful products like firearms, fast food, etc.
Instead, these investors focus their interest in companies that engage in efforts that result in environmental sustainability, human rights & social justice, clean energy, consumer protection, gender, and racial diversity.
That means that if you’re environmentally conscious, your portfolio will likely have investments in clean energy sources like solar and wind companies. And socially responsible investing companies that care about people of color, women, and other marginalized groups. In essence, your portfolio will consist of stocks of black-owned companies or mutual funds that invest in women-run companies and so on.
On the flip side, the arguments against socially responsible investing make the equation more complex. This is because you can find a company that is not specifically eco-friendly but generates lots of employment opportunities that improve people’s lives, like tobacco and alcohol-producing companies. In that case, where does the ‘moral’ spectrum fall?
This clearly shows that social investments are subjective, and it’s up to the investor to balance the equation between ethics and performance.
History of Socially Responsible Investing
SRI concept was religiously motivated, where initiators urged people to avoid ‘sinful’ companies. This practice dates back to 1758 when the Religious Society of Friends (Quakers) Philadelphia Yearly Meeting banned its members from playing a part in the slave trade – purchasing and selling humans.
John Wesley, one of the founders of Methodism, adopted the concept. He spread it through sermons that illustrated how the use of money could contribute to social change.
Wesley illustrated how you could avoid harming your neighbors if you avoid industries like chemical production and tanning. Also, he urged people to avoid investing in companies associated with tobacco, guns, and liquor.
The modern era of SRI began in the 1960s political climate. During this era, socially conscious individuals began to increase their need to address civil rights, equality of women, and labor issues. Dr. Martin Luther King began economic development projects like the Montgomery bus boycott and operation Breadbasket that established socially responsible investing.
In the early and mid-1990s, SRI’s upsurge focused on different issues, including mutual fund proxy disclosure, tobacco stocks, and more. Unibanco, a Brazilian bank, became the first sell-side brokerage that offered SRI research.
Today, SRI has increasingly become a way to promote environmentally sustainable development. Social investors now address the indigenous people’s rights affected by various business practices across the globe. From advocating for healthy working conditions, fair wages, equal opportunity employment to ensuring product safety, and more.
See related: 19 Social Impact Examples You Need to Know
Pros and Cons of Socially Responsible Investing Approach
Socially responsible investing pros and cons include the good and bad sides of sustainable investing. Let’s explore those upsides and downsides.
Pros of Socially Responsible Investing
Some of the benefits of socially responsible investing include;
1. You’re Expressing a Personal Opinion
When you aren’t sure what you stand for, it’s easy to bow to other people’s suggestions. Committing to stand for socially responsible investing gives you a chance to put your money in business practices that you value and are acting responsibly.
The more people choose to invest in companies that positively impact the world, the better it will become. And, the ‘sinful’ industries will be forced to be straightforward for them to get any support. If we stand for a cause, it will bring changes in society.
2. You’re Taking what you’re Preaching
Having core values that guide you and you stick by is essential. Socially responsible investing is a good value to live by. To spread this good cause, then you have to lead from the front by being the first that invest in ethical companies.
Typically, socially responsible investing lets you put your money where your mouth is. For an environmentalist, having a portfolio consisting of clean energy companies would pass the information clearer than just making radical statements. On the contrary, if your portfolio has industries known to destroy the environment, it would contradict what you preach.
When you invest responsibly, you decide to support businesses and funds with values that most closely match yours.
3. You’re Rewarding Ethical Companies
When you invest in socially responsible companies, you promote their cause and reward them for doing the right thing. And, making a capital investment is the most tangible way to show support to these companies. Technically, it means you’re punishing those companies acting unethically.
Therefore, supporting ethical companies will punish those that aren’t making responsible decisions. That makes it a catalyst for significant social and environmental change in the long run.
4. You have Peace of Mind
Investing in a socially responsible way gives you peace of mind. Since you have followed your personal beliefs when investing, you will be certain that you have contributed to the world’s good. Making the right decisions let you relax, and you’ll even sleep well at night.
5. You Earn while Making an Impact
When you invest in socially responsible companies, you’ll have two things to feel great about – making money and making the world a better place for today and future generations.
Isn’t that the most rewarding thing ever? Absolutely! Combining your SRI strategy with your financial strategy is pretty gratifying. And, it also means that your values are aligned with the company’s values, and they are making you rich, so it’s a win-win strategy.
Investing in ethical companies may require paying a little more in management fees, among other charges. But that’s not a big deal when you know that you’re investing in those companies for a greater cause.
Cons of Socially Responsible Investing
While socially responsible investing has plenty of rewards, it also comes with a few drawbacks Here are some of the disadvantages of SRI:
1. You May Be Leaving Money on the Table
For socially responsible investors, fund and corporate performance aren’t the only indicators of success. If ethical investing means making less money, they are willing to sacrifice that money for a bigger cause. And when social or environmental impact is the measuring stick, you may have to overlook some big money-makers out there.
2. Social Good is Subjective
Unlike financial returns that are relatively simple to establish, social impact is challenging to measure. There is a lot more to consider when measuring social return on investment. What you consider good may not be quantified, and therefore your decision will most likely be subjective. Your belief is, mostly, the deal-breaker.
Also, the company may be making a social impact but contributing to environmental destruction. For example, tech communications may be helping reduce deforestation as less paper is used. But at the same time, it contributes to a bigger problem of dealing with e-waste and carbon emissions.
3. Several Companies Claim to be Socially Responsible, but they Aren’t
How do you tell that a company is socially responsible? Today, many companies have come up with marketing claims that they are ethical in different matters. They create an image of being ethical in the minds of people without actually being socially responsible. With aggressive marketing, people nearly believe everything they say.
Therefore, this poses a challenge to SRI investors when picking the socially responsible companies to invest in. It’s easy to select a company that might just use marketing gimmicks to make people believe they are socially responsible while – they are not in the real sense.
How to Get Started as a Socially Responsible Investor
Creating a socially responsible portfolio doesn’t have to be daunting. Provided you know the values you hold onto dearly, you can begin putting your dollars into a good cause. Here is how to get started:
1. Decide Whether to DIY or to Get Help
You can explore various avenues when creating an ethical portfolio. One is to DIY, where you pick the specific investments and monitor them over time. And the other is to get some assistance.
While most people want to figure things out on their own, it could be tedious and time-consuming. And that’s where Robo-advisors come in. Robo-advisors use algorithms to create, invest and manage your portfolio based upon your level of risk tolerance and goals.
A good example of a Robo-advisor is personal capital. When investing for SRI investors, they focus on Environmental, Social, and Governance (ESG) metrics. Betterment is another Robo-advisor that provides SRI alternatives for emerging market stocks and large-cap U.S. stocks.
Managed portfolios by Ally Invest also feature socially responsible investments portfolios. With them, you can invest in sustainable, energy-efficient, or other eco-friendly initiatives.
Robo-advisors are cost-effective, and most offer SRI investors an optimized portfolio, meaning all the hard work is done for you. Their main drawback is that you cannot just add a particular company that you may be interested in.
2. Open an Investing Account
If you don’t go the Robo-advisor way, then you have first to open a brokerage account. This account helps you in buying and selling your investments. Some brokerage firms have stronger SRI offerings than others. For instance, Fidelity and Merill Edge have screening tools that enable you to find the ideal funds for your portfolio quickly.
3. Outline what you Value
Writing down what you’re looking for in ESG and SRI investments is vital. Here, you have to decide your deal-breakers. What do you want to avoid in your portfolio?
Would you invest in a company that scores lower in matters of environmental sustainability but high in the inclusivity of marginalized groups in their board of directors? Being certain about the industries you support and those you don’t will make the process easier.
4. Research your Investments with Caution
Once you have created a brokerage account and have your priorities right, you can begin building your portfolio. Mutual funds and stocks are two investments that you may consider in a sustainable portfolio.
Individual stocks should have between 5% and 10% of your portfolio. Be sure to include socially responsible investment companies that are likely to grow. For instance, check their net income, revenues, diversity of their board of directors, sustainability report, and how employees grade the work culture.
Mutual funds help diversify an investment portfolio. There are plenty of sustainable mutual funds to choose from. Mutual funds are selected assets adhering to a particular laid out criteria by the fund manager.
If your broker has a screening tool, consider using it to sift through various fund options and choose your portfolio’s best. Different funds have key focuses like investing in fossil-fuel-free companies or support of women leadership.
Use your brokers’ website to read the details of a particular fund and to look through the prospectus. Be sure to check the expense ratio (annual fees taken as your investments’ percentage) and a funds holding (list of each company the fund is invested in).
For most people, all this work of choosing the ideal companies may seem too daunting. Luckily, plenty of companies have begun packaging funds and other consumer investment products to enable an average investor to easily choose a mutual fund to build around their socially responsible goals.
See related: How to Measure Social Impact (Step-By-Step Guide)
Types of SRI Funds
Let’s look at the different socially responsible investments funds:
1. ESG Funds
ESG investing is one of the most popular forms of SRI investment. It encompasses a holistic perspective on which to judge if your investments have environmental, social, and governance elements. These three are vital factors to a company’s ability to remain in business sustainably.
ESG funds are embedded on companies showing:
- Environmental Stewardship
- Mutually beneficial relationship with stakeholders (inside and outside the company)
- A transparent boardroom that represents a wide array of interests
ESG investing screens for businesses that score high on environmental, social, and governance issues. The rising public interest in ESG investments is producing an impact on the financial industry since it promotes social good and is a way to improve returns over time.
2. Impact Funds
An impact fund is a money put in companies that create positive social impact. This requires sacrificing some of your potential financial returns in favor of social good. Therefore, the investor chooses funds that will create the largest impact possible for every invested dollar.
3. Faith-based Funds
Faith is an integral part of how people view the largest ‘moral’ obligations that face society. Therefore, it would make sense that people turn to their personal beliefs for guidance on the best path to do SRI.
Luckily, there are plenty of investment options that churches and other religious affiliations have created. They are transparent on the criteria they use to choose their options to suit their doctrines.
When investing responsibly, consider checking out some of these investment platforms to help get you started:
Earthfolio is an automated investing platform embedded in the idea that ‘investing goes beyond doing a transaction’ but has a personal stake in the future. With Earthfolio, you can invest exclusively in ETFs and funds with strong ESG practices. This way, you help make the world a bit better through smart and time-efficient investing.
To get started, you need only to answer ten questions regarding your level of risk tolerance and your goals. Then a portfolio that matches your answers will be provided to you. This lets you own a fully diversified portfolio that is automatically rebalanced and optimized to your specific goals.
The minimum investment amount you can invest in Earthfolio is $25,000, with a 0.5% annual management fee. You can either choose to open an individual or a joint account, IRA or ROTH rollover, trust account, SEP, 401 (k), or 403(b) Rollover.
This is a Public Benefit Corporation that aims to bring transparency to financial services and make SRI quickly accessible to all.
OpenInvest provides access to an all-inclusive and fully diversified portfolio to help investors customize them to suit their values.
This platform supports not only individual and joint accounts but also conventional SEP IRAs and ROTH. And it also helps in tax optimization at the individual equities level so that an investor can gain higher tax savings.
To get started, you only need to open a brokerage account, fund the account and then allow the platform to handle the rest of the work. The minimum investment in OpenInvest is $100. For your investments to align well with your values, you can declare what is important to you and what you care about the most.
OpenInvest maximizes your impacts measured through an online dashboard. You can use the dashboard to join the movements, engage and utilize your investor power to make your assets grow directly with the market growth. This can help reduce unnecessary taxes and fees.
Ellevest is a platform built by women for women. It provides the only investment algorithm that considers the distinct realities surrounding women’s lives, including pay gaps and extended lifespans, etc. With Ellevest’s portfolio, you can invest in women’s leadership, community development, and sustainable practices.
This platform emphasizes fair investing for women, and it works with US adult citizens to help them accomplish their financial goals through wise investing. Ellevest creates a diverse mix of bond, stock, and alternative funds to reduce the portfolio’s overall risk.
The platform also recommends how much you can save and assists you to roll over a 401 (k) or transfer a traditional SEP, IRA, or ROTH. This platform has no minimum investment amount or balance.