If you believe that companies that are strongly committed to socially and environmentally sound practices will outperform their peers in the long run, then you would expect so-called socially responsible investment (SRI) funds to deliver superior returns to investors.
The trouble is, they don't. Sure, some years the mutual funds run by the Calvert, Domini, Parnassus and the rest do very well--they excelled during the tech boom of the late 1990s because they tend to eschew heavy industry--but other years, they lag behind market indices. Over time, most track the broader market.
Over the three years ending December 31, 2009, for instance, among the big SRI funds, Calvert Social Investment is down by a cumulative 13.02%, Domini Social Equity is down by a total of 16.2% and Parnussus Equity Income is up by 0.14%. Only Parnussus performed significantly above the S&P500, which was down by 15.9%,
Why haven't they done better? Some of us have long believed that the problem with conventional SRI funds is that their definition of "socially responsible" is not nearly as rigorous as it could or should be.
Paul Hawken has been vocal in his critique of the SRI establishment, and since 2005 he has put his money where his mouth is. In a partnership with Baldwin Brothers, a Massachusetts-based investment firm, Hawken has overseen the Highwater Global Fund, a fund for qualified investors (i.e., the rich) that invests in companies "that have a clear sense of current global trends and future societal needs." His results have been impressive, to say the least.
Since inception in the fall of 2005, Highwater is up by a total of 52.55%. During the three years ended in December (the same period cited above), Highwater is up by a total of 19.75%. This is, in part, because Hawken and the other fund managers are very picky about what stocks they hold. More than 90% of the Fortune 500 fail their screens.
If you don't know about Paul Hawken, you should. He's a path-breaking thinker and influential writer whose books include The Ecology of Commere (1993), Natural Capitalism (1999, with Amory and Hunter Lovins) and Blessed Unrest (2007). He's an entrepreneur who founded Erewhon and Smith & Hawken, and an advisor who has worked with to Wal-Mart and Ford. These days, he's focused on a startup in stealth mode called OneSun, a a solar energy company based on green chemistry and biomimcry.
I had the great pleasure of visiting with Hawken last week at his office in Sausalito, CA. Mostly, we talked solar. OneSun's chief science officer is John Warner, a pioneer of green chemistry, a longtime researcher at Polaroid and author (with Paul Anastas, now EPA's top researcher) of Green Chemistry: Theory and Practice. OneSun has hired more than a dozen PhD.'s and aims to produce "solar beneath the cost of nuclear and coal," Hawken says, but he's not ready to divulge much more yet.
Highwater is an equally interesting story, in part because it seems to validate Hawken's critique of social investing. When his Natural Capital Institute analyzed SRI funds in 2004, he found that "90% of Fortune 500 companies were represented in their portfolios," as a group. (I did a brief story about this headlined Are Green Funds True to Their Colors? in Fortune.)
Some funds weren't very strict about who they let into their club. Others adopted silly screens. A few have been rethinking their approach--Calvert, for example, now offers a range of choices for investors, as it explains here. I'm a believer in social investing and an investor in Calvert and Domini funds.
But I think Hawken is on the mark when he writes:
Many of these [SRI] funds employ the term sustainability. This is a catchall term that...has come to mean less than it could and more than it should. At Highwater, we also use the word, but we believe that sustainability is a scientific concept, not a feel-good term. It is rooted in biology and physics, and describes the limits within which society can grow and prosper over time.
Hawken, as a result, is a tough grader. "We think Portfolio 21 [an environmentally-focused mutual fund based in Portland] has the best screens, and only 60% of their portfolio would qualify for ours," he told me. Hawken respects Portfolio 21, as do I--it's another place where I've invested.
So, for example, Whole Foods Markets, which is widely held by SRI funds, doesn't pass muster with Hawken and his analysts. Why? "Unethical behavior by the CEO," says Hawken, referring to John Mackey's antics on a Yahoo! message board, where he demeaned a competing chain under a pseudonym. What's more, he says, Whole Foods' global supply chain needlessly undermines local food markets. Did you know that some organic frozen vegetables sold under Whole Foods' 365 brand--even an assortment called the California Medley--come from China? (Here's a Whole Foods' blogpost about "Chinese organics," followed by skeptical comments.)
Most global banks and pharmaceutical companies failed Highwater's screens as well. "We spurned money center banks because of liar loans, teaser rates and usurious interest rates on rampant consumer credit," Hawken says. Of course, that turned out to be smart when stocks of the big banks cratered during 2008. Most SRI funds held big banks as well as big pharma.
Hawken seeks out companies with a compelling purpose, as evidenced by what a company does, not what it says it does. He writes:
Our main question is straightforward: Are the company's products or services helpful? The reasoning here is simple: If a company is heading down a path that does not serve society into the future, it matters little how it gets there.
For example, the values statement at Kellogg's has lofty goals. However, at no point does it mention children or health. There is a children's health crisis in the US due to obesity and type 2 diabetes. Advertising and promoting Cookie Crunch, Frosted Flakes and Star Trek cereals, all of which contain more than one-third simple sugars, during Saturday morning cartoons, belies Kellogg's value statement.
So who passes the screens? Google, whose purpose is to make all of the world's information available to everyone. "That's a reason to go to work in the morning," Hawken says. The Danish wind company Vestas qualifies, as does First Solar, which makes photovoltaic panels. (Some Chinese solar firms do not because of their workplace and environmental practices.) Ford and Honda pass as well. "I was driving 100 miles per gallon cars in Dearborn two years ago," says Hawken, an advisor to Ford. He drives a Ford Escape hybrid.
Other firms that qualify include eBay, which enables thousands of small business owners to flourish, and Amazon, which has begun to deliver digital books, magazines and newspapers. "Trees are being saved because of the Kindle," Hawken says.
Highwater's performance, it must be said, doesn't prove that Hawken's approach works. Much of the credit for the fund's success goes to the managers at Baldwin Brothers, who decides when to buy and sell the securities held by the fund. Luck can also come into play.
It's become a cliché to say that companies can do well by doing good.
A more intriguing idea is that a small number of companies that set out to do the most possible good will, in the long run, do very, very well. This is what Hawken believes, and my gut tells me he's right.