Here's the kicker, though: the less a company's core business aligns with Domini's goals, the higher the fund's stakeholder standards. And the more a company's core business aligns with Domini's goals, the lower the fund's stakeholder standards.
"If [your business] is fundamentally aligned [with our goals] and is neutral with respect to your safety record or use of toxic chemicals, you will make it onto our buy list," says Domini president Carole Laible.
A Deeper Look
How do you make consistent and meaningful decisions within this broader framework? Domini's answer was to create KPIs that reflect each industry's most pressing sustainability challenges.
The fund realized, however, that there are also huge differences within industries as defined by the Global Industry Classification Standard, which helps make sector-based investing possible. For example, the conventional materials industry includes precious metals, industrial and commercial metals, specialty chemicals, commodity chemicals, mining, cement, forest products and packaging.
"From a sustainability point of view, these are very different," Laible says.
The fund sub-divided each of the 24 conventional industry classifications into between four and seven "sub-industries" and also invented new categories altogether. In terms of sustainability, for instance, snacks such as candy and beverages differ from other companies that provide food. Then, based on each sub-industry, it created about six KPIs: three regarding business alignment; and three related to its stakeholder model.
Although KPIs like workplace safety reflect environmental and social risk, others represent positive impact. In the homebuilding industry, for example, Domini wants to know what percentage of sales or units built meet energy standards, are located on brownfields or redeveloped land (something that saves more land for green spaces), and serve low-income customers.
But not all KPIs are quantifiable. Supply chain labor conditions--whether or not a company has a code, reports that code and engages in monitoring--could be an entire area of research, Kanzer says. "It's a qualitative assessment, and there are lots of judgments along the way."
Of course, most large-cap companies are conglomerates that consist of several sub-industries. And that's the hitch because a decision about whether to approve a company like JP Morgan Chase, currently the fund's third-largest holding, can hinge on the thorough analysis of 30 to 40 KPIs. As a result, Domini's decisions can be either extremely nuanced and fair or watered down, depending on your point of view.
"You shouldn't be looking at this as a stamp of approval," Kanzer says. "Chase is a tough call. We're wrestling with a lot of really difficult issues."
Call In The Quants
Domini assesses 2,500 companies, which are rated internally on a scale of one to five. Companies rated one to three, or roughly 60% of the entire lot, are approved for Domini's buy list. Quantitative analysts at Wellington Management, the fund's sub-advisor, make all the investment decisions. Domini's U.S. fund currently includes 148 companies; its international fund comprises 88 companies.
Why is an SRI fund turning over its actual investment decisions to quants? "Although we believe more ethical companies are more likely to outperform in the long run and are going to run into less trouble, a lot of other things impact corporate performance and the way the stock market moves," Kanzer says. "A lot of it is not rational or predictable, or related to what the company actually does. Wellington's quants are dedicated to understanding that."