Ethical investing

Like most people, I have investments, largely in the form of mutual funds. So that means I'm supporting and profiting (at least in the long run) from the companies whose stocks make up the funds. And which companies are those? I haven't got a clue. But what if some of them are tobacco companies? How about companies that are major polluters? Companies that don't treat their workers well (unsafe working conditions, unions not allowed, etc.)? Companies that manufacture weapons or--and this is trickier--weapons components? Obviously the list could go on and on ...

So what to do? Three choices I can think of are (1) don't invest; (2) invest to maximize profits (subject to an acceptable level of risk) and then donate some of the profits to worthy causes; and (3) invest "ethically";

Option (1) doesn't seem sensible. First of all, I don't think I have an ethical problem with investing per se. In fact it seems like a good thing to me. For example, venture capital helps support innovation. Second, I have to plan for the future (my kids' education, my retirement, etc.). Third, are there any good alternatives to investing? For the time being, let's move on to the other two options.

Option (2) is straightforward. Follow conventional financial wisdom to trade off profits and risks. As I noted above, this inevitably means that I'm to some extent complicit in the practices of the companies in which I'm investing. If I contribute some of my profits to worthy organizations, can I compensate for these harms? For example, if some of my profits come at the cost of polluting the environment, can contributions to environmental organizations make up for the damage done?

Option (3) is to invest ethically. For example, I might avoid investing in tobacco companies, companies that I judge to be egregious polluters, and weapons manufacturers. But how am I to do this? I'm not sure I have the time and energy to research the practices of various companies on an ongoing basis. An alternative is to purchase "ethical" mutual funds. A number of such funds exist, with different definitions of what types of practices are unethical. An obvious problem is that "ethical" mutual funds are likely to underperform. Naturally, if ethical considerations are ignored, there's a broader choice of companies in which to invest, and a competent fund manager ought to achieve higher profits. Compounding this, is the issue of management fees. Someone has to do the ongoing research to judge which companies have ethical practices, and this comes with a cost. I've been told that, indeed, "ethical" mutual funds generally don't perform as well as other funds, delivering a long-term absolute rate of return perhaps 2% lower than other funds.

So why not return to option (2), maximize profits, and contribute each year's profit differential to worthy causes? (This would be over and above my normal charitable contributions.) This seems like perhaps the best course of action, except that I have the nagging feeling that it's a cop-out.

So I appeal to you, gentle reader, to disabuse me of my misconceptions or point out what I've overlooked. Can anyone see a way out?