Investing with a Conscience: An Evaluation of the Risk‐Adjusted Performance of Socially Responsible Mutual Funds Available to Purchase

This study evaluates risk‐adjusted performance of socially responsible mutual funds during the period 1991‐2000, using objective statistical measures grounded in modern portfolio theory. A socially responsible mutual fund is defined as one which employs “social screens” in stock selection, such as whether a fi rm manufactures tobacco products, whether it is in the gambling business, whether it heeds environmental safety, its human rights records, etc. The main objective of this study is to provide empirical documentation on the risk‐adjusted returns of these mutual funds, for the benefit of investors. To our knowledge, this is one of the first, if not the first, academic study to utilize a relatively new risk‐adjusted performance measure, posited by Nobel Laureate Franco Modigliani and Leah Modigliani in 1997 (hereafter referred to as M Squared), to evaluate socially responsible mutual funds. The idea that underlies their methodology is to adjust the investment risk of a mutual fund to the level of risk in an unmanaged benchmark stock‐market index and then measure the returns on the risk‐matched fund. The M Squared measure not only relates the level of risk to the level of reward, but also enables risk‐adjusted returns to be reported on a percentage basis, rather than on an absolute basis, which makes them more easily understood by the average investor. The results of this study can be used in decision making by investors who seek objective criteria to select a socially responsible mutual fund from among a menu of several funds.