The number of investors who wish to align their investment portfolios with personal values continues to rise, but constructing such a portfolio is far from straightforward.

Despite rapidly growing demand for sustainable and responsible investments, the field is still nascent and in the early stages of development. The myriad of choices available also poses an intimidating challenge to investors who want to make a positive impact but do not know where to start. Some are confused about the various labels, such as Environmental, Social and Governance (ESG), impact investing and socially responsible investments (SRI), while others are worried that they will have to sacrifice returns and delay reaching their financial goals. (For related reading, see: Impact Investing: Making a Difference and a Profit.)

Financial analysis is a challenging task as well. Given the short track record of SRI-themed investment products, there is limited data to draw from which increases the difficulty of managing risk and setting performance expectations.

To help clients navigate the world of values-based investing, Dan Kern, Chief Investment Officer of Boston-based TFC Financial Management, has four main pieces of advice.  

1. Define Objectives

In any investment portfolio, establishing what your goals are is the first and most important step. Responsible investing is no different. Advisors must work with clients to figure out what their primary motives are, which personal values they wish to align their investments with, the time horizon and their financial targets. Simply wanting to do good, while admirable, is not enough to establish a viable approach.

Using ESG factors is a good start, according to online investment services firm Betterment, which introduced its own SRI portfolio. ESG metrics can help investors map out the companies or industries they want to reduce exposure to due to undesirable business practices, and conversely, the ones they want to support.

2. Separate “Nice to Haves” from “Must Haves”

Kern cautions that for the average investor, it will be impossible to find a mutual find or exchange-traded fund (ETF) that meets every single criterion on the personal values list. Therefore, it is important to remain flexible and make a distinction between primary and secondary concerns. Many funds follow one or multiple themes, such as clean energy or human rights, which is applied as a screen on existing strategies to either add or exclude specific holdings. (For related reading, see: These SRI Funds Focus on Empowering Women.)

On the other hand, investors who are not willing to make any concessions on personal values will likely be limited to a separately managed account in order to accomplish both investment and SRI goals. Doing so, however, will mean higher fees as well as more active and personal involvement.

3. Understand the Financial Implications

While there is no substantial evidence to support the popular belief that SRI funds perform worse than traditional funds overall, there may be financial trade offs associated with a strategy in particular circumstances, especially in the short term. For example, a fossil fuel free or low-carbon fund may underperform the broad equity market when oil prices increase, Kern points out.

On the whole, a growing body of data is starting to reveal that SRI funds do just as well as standard stock funds as long as the fees are comparable. According to a CNBC analysis of Morningstar data, there is no material performance penalty on sustainable/responsible portfolios. A 2013 meta analysis found that roughly 75% showed no difference in performance, either positive or negative.

4. Do Your Due Diligence

Not all socially responsible investments are made equal. The usual factors that define a high-quality investment are equally important when evaluating its SRI counterparts. Indicators like the quality of the fund manager, historical performance and expense ratios should not be overlooked or compromised just to meet SRI standards, emphasized Kern.

The Bottom Line

There is no magical formula on the ratio of assets to allocate towards socially responsible investments, nor which types of strategy are the most suitable. Just like traditional portfolios, SRI investing will depend on each client, their goals and personal aspirations and ability to tolerate risk. But regardless of such nuances, setting specific boundaries and developing an appropriate plan of action will help investors get the most out of their honorable intentions. (For more, see: Socially Responsible Stocks: Do Good Deeds Punish Profits?)

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