FA Playbook

Want a more ethical 401(k) plan? New ruling may help

Sarah O'Brien, special to CNBC.com

If you're interested in steering your retirement money toward companies with values that match your own, there's a good chance you'll start seeing more opportunities to invest in them through your 401(k) plan.

In recent guidance that essentially rescinded an earlier opinion, the U.S. Labor Department has now made it clear to 401(k) sponsors that, really, it's okay to offer investments that fall under the umbrella of socially responsible investing — as long as it meets the same criteria as any investment under fiduciary rules.

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While 401(k) plans are not obligated to offer such investments, the persistent and growing enthusiasm for SRI suggests plan sponsors would be remiss not to explore including options that fulfill workers' financial and social objectives.

"When I started in the business about 30 years ago, there were only [a few companies] with these offerings," said certified financial planner Geri Eisenman Pell, a private wealth advisor and CEO of Pell Wealth Partners. "Now there are so many more that it would be unlikely that it's not driven by consumer demand. There's a huge amount of money going into this arena," she added.

Indeed, according to the Forum for Sustainable and Responsible Investment, assets in such investments stood at more than $6.5 trillion in 2014, up from $2.7 trillion in 2007 and $639 billion in 1995. (While those amounts include assets managed through workplace retirement plans, they weren't separately tracked.)

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Additionally, a survey done earlier this year by Calvert Investments, which offers a full menu of SRI mutual funds, shows that most 401(k) participants want SRI options.

Of the more than 1,200 401(k) plan participants and 300 eligible nonparticipants surveyed, 87 percent want investment options that align with their values and 82 percent would likely choose such an option if offered. Also, 55 percent of the nonparticipants said they'd be more likely to participate in their workplace plan if it offered an SRI option.

There are different terms used in the industry for socially responsible investments. The Labor Department calls them economically targeted investments, while some people talk about environmental, social and governance strategies. Regardless of the term, their commonality is an investment approach that examines a company's social or environmental practices instead of looking exclusively at its financial performance.

The recent Labor Department guidance, issued in October, overrides 2008 guidance that said such investing in 401(k) plans and the like should be "rare."

The Pope climate debate
The Pope climate debate

The guidance chilled plan sponsors' willingness to consider SRI options. Indeed, DOL's new opinion acknowledges that its 2008 guidance "unduly discouraged fiduciaries" from even considering SRI options.

Research done by Asset International shows that, based on a survey of workplace retirement plans, 11.3 percent offer socially responsible investment options. Among nonprofits, endowments and foundations, that figure is significantly higher, at 29.4 percent.

Some financial advisors have seen interest in SRI growing among their clients' non-workplace investments, although Calvert Investments' research shows that 80 percent of advisors do not mention SRI unless a client asks about it.

Pell, who calls it "impact investing," does not wait for a client to express interest; she routinely offers it.

"You can build an entire portfolio out of impact investing," Pell said. "When I bring this up to clients, they are interested in hearing more."

Only a small number of clients reject the idea outright, she said.

"For clients interested in it, some have all of their money in it, but most only have a portion there," Pell said. "But it's got all the same things — large-cap, mid-cap, small-cap, bonds — that you would find in a regular portfolio."

Pell said that millennials are among the most interested.

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"They are more concerned about investing for causes and investing in things they believe in, than just investing to make money," Pell said. "They've been brought up to save the planet, and they really believe that doing good can make money."

Various data shows that SRI strategies can be as profitable as standard investment approaches. For instance, the Calvert Equity Portfolio — one of the oldest SRI funds — returned 5.45 percent this year through Oct. 31, compared with a 2.12 percent return for the Standard & Poor's 500 index in the same time period.

Not all SRI-oriented funds beat the market, of course, but many pros have been pleased with their relative performance.

Arthur Stein, CFP and owner of Arthur Stein Financial, recently constructed an SRI portfolio for a new client.

I've had only a few clients say they want to do responsible investing, but they have a hard time defining that.
Scot Hanson
financial advisor with EFS Advisors

"She was interested in having her investments match up with her feelings about how people are treated and how the environment is treated," Stein explained.

After doing lots of research and creating the portfolio, Stein analyzed its performance and saw it compared favorably with his standard U.S. stock portfolio.

"Had I found a big difference in return or risk or anything else, it would have been a different conversation I'd had with her," said Stein, adding that the SRI investments are only one part of the client's total portfolio.

One tricky thing about responsible investing is that it means different things to different people.

"I've had only a few clients say they want to do responsible investing, but they have a hard time defining that," said Scot Hanson, a CFP and financial advisor with EFS Advisors. "Some are interested in child labor laws, some the environment."

He added: "Some don't want to invest in vices like smoking and drinking, but other people don't care about that."

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He also pointed out that as an advisor, his fiduciary duty to his clients is paramount.

"As an advisor, you want to respect someone's values, but you don't want your hands tied," said Hanson, adding that some investors' definition of SRI can be very restrictive.

For Pell of Pell Wealth Partners, offering impact investing to her clients aligns with her own values.

"A lot of this ties in with my interests, but even if it didn't or [a client] isn't as passionate about it, it doesn't matter, because it makes money," she said. "The returns are there."

— By Sarah O'Brien, special to CNBC.com

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