Does ethical investing lead to lower returns?

If you don’t mind profiting from war, shares in defense industry stocks have been rocketing ahead despite America?s current economic malaise. Get a load of these numbers. In the last year, Raytheon the missile-maker is up 25%. If you had bought shares of General Dynamics 2 years ago just as the major markets were beginning to meltdown, you would have doubled your investment. But the largest gains have come to those many perhaps unwitting investors who are benefiting from the production of landmines and bullets. Alliant Techsystems is one of the leaders in the field of, well shall we say, disabling people. A $1,000 investment in Alliant four years ago would be worth about $3,500 today, pretty easy money if you generally have no problems sleeping at night.

Actually, my faith in human nature is such that I believe the majority of investors would rather earn a little less and sleep a lot more rather than the other way around. Which brings me to the question that I so often hear, “Can I invest with a clear conscience and still make a decent return?” You see, many people somehow feel that ethical investing means giving up on the profit line. I want to reassure you that there is absolutely no proof that this is so.

Early last year Keith McArthur, a columnist with the Globe and Mail, opined that “Mixing morals with your money has become so chic it’s almost boring.” And I thought Toronto was overcome with smog, not smug. Anyways, McArthur was interested enough in the subject to start running a comparison of two investment portfolios, one he labeled ?sinners? and the other he labeled ‘saints’. The sinners portfolio is comprised of the aforementioned Raytheon (missiles), New Frontier Media (pornography), Rothmans (tobacco), Molson (alcohol), MGM Mirage (gambling) and Talisman Energy (nefarious dealings in Sudan). Now there’s a portfolio for someone who has never needed a Sominex. This gruesome collection of stocks has managed to gain 11.5% since last May, pretty good considering the general state of the stock markets.

The ‘saints’ portfolio he is tracking (go to for details) is made up of Husky Injection Mouldings (injection moulding equipment)), Suncor (an oil company on the leading edge of social and environmental practices), Zenon Environmental (water filtration), Vestas (wind turbines), Fannie Mae (mortgages for low income earners) and Whole Foods Markets (natural foods). Since last May, this portfolio has returned an astounding 37.1%, handily trouncing the ‘sinners’ collection.

So what do these numbers demonstrate? ABSOLUTELY NOTHING. Too small a sampling of stocks over too short a time. The only value in this comparison is if you get some amusement from it. To draw any meaningful conclusions, one has to look at a larger sample over a longer period. This can be somewhat problematical – socially responsible investing on a large scale did not exist until the early nineties.

Those looking for harder evidence as to the financial merits of ethical investing may want to consider this example. The Domini Social Equity Fund is the oldest and largest socially and environmentally screened index fund in the U.S. Since it’s inception in June 1991, this fund has achieved a 10.64% average annual compounded return. By comparison, the Standard and Poor;’s index of America’s largest 500 corporations has returned 11.04% over the same period. But wait, the Domini fund takes about 1% a year in management fees, and if you factor that into the equation, they beat the S&P index by a fraction.

One could still argue that this comparison lacks validity, after all, 11 years is but a tiny slice of history. However, if you can unearth evidence that investing without morals leaves you wealthier than investing with them, I would like to have a look at your research. In the meantime, my gut tells me that in the future (which is what most of us are concerned about) the opposite will prove to be true.

The view from here is that the real challenge faced by ethical investors has little to do with having to lower your return expectations, and more to do with whether the companies in your ‘ethical fund’ are really ‘walking the talk’ with regards to their business practices. Corporate image-makers will go to great lengths in attempting to win our hearts. Alliant Techsystems (the landmine manufacturer) is not going to be found in any ethical portfolio, still, they have a prominent page on their website devoted to the company’s care for the environment. Who are they trying to kid?

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