Some Hard Truths About Faith-Based Investing
The intersection of faith and finance is receiving renewed attention. As wealth and wealth disparity have both risen globally, more and more people are concluding that living well is not enough: they also want to use their financial blessings to do more good. Faith traditions help provide direction for this challenge. For example, while most faiths condemn ostentatious, self-serving wealth, just as many celebrate productive investment. In fact, many ancient religions explicitly teach that wise investment that leads to prosperity and promotes good works is needed and should be encouraged.
Consider, for example, the message Jesus renders in The Parable of the Talents (Matthew 25:14-30). In this parable, a master who entrusted three of his servants with sums of gold lauds two who multiplied their talents but condemns the third who earned nothing, having instead buried it for safekeeping. The meaning that most Christian financiers draw from this parable involves stewardship and return optimization, Stewardship maintains any wealth one may accumulate or inherit in one’s lifetime is not actually one’s to keep, but is rather temporarily entrusted to its owner to invest for the benefit of others. Putting one’s investments to unprofitable or unproductive purpose is clearly not something Jesus ever endorsed. Like other religious leaders, of course, Jesus strongly emphasized the significance of charity. “If you would be perfect,” Jesus says in Matthew 19:21, “sell all you have and give it to the poor, and come follow me.” For the vast majority of human beings who remain imperfect, living modestly and investing excess wealth to create a better future for others is well within reach.
Judaism, Islam, Hinduism and Buddhism all share some versions of stewardship and return optimization. In Judaism, bal taschit is a concept with roots in the Hebrew Bible, the Torah, and Deuteronomy, which guides faithful Jews not to waste their resources, but rather to act as stewards of the environment. Similarly, tikkun olam refers to a Jewish person’s duty to use their energy and resources to repair the world and promote justice. Islam considers wealth to be an amanah, or trust from God. The Koran explicitly endorses investments that are halal - i.e., productive and ethical - while condemning those that are haram. In practice, this has meant specific investment prohibitions against alcohol, tobacco, pork, gambling, pornography and weapons manufacturing. Islamic finance also explicitly diects all profit-sharing be fair. Dharma and karma provide an ethical framework through which all Hindu behavior is judged, including wealth accumulation and investment. Hindus are encouraged to pursue economic prosperity (artha), but must do so without violating several core principles, including non-violence (ahimsa) and environmental sustainability (loka-samgraha). Buddhist investment maxims similarly stress mindfulness and sustainability. In the Sigalovada Sutta, Buddha pointedly instructs a youthful man called Sigala to pursue his career responsibly and ethically, and to divide his earnings thoughtfully, with half devoted to consumption and savings, and the other half dedicated to investment.
The combination of all these teachings appears clear. Those who want their faith and financial activities to comport optimally need to be mindful about their wealth. Once they have achieved a level of economic self-sufficiency, they should engage in charitable giving and invest their excess capital into enterprises that improve the lives of others, with compensating financial returns. It was with these principles and traditions in mind that the Impact Evaluation Lab recently set out to evaluate the current field of faith-based investing. We analyzed hundreds of faith-based mutual funds and ETFs that claim to produce societal benefit with ethical consistency driven by religious tenets, while also generating a return. Like all funds IEL rates, faith-based funds can and should be rigorous, both in the discernable impact they generate as well as their return profiles. Unfortunately, we instead found faith-based funds too often fail to live up to these ideals. Specifically:
The faith-based mutual funds and ETFs IEL studied were twice as likely to underperform their chosen benchmarks as they were to outperform them.
Two-thirds of all faith-based funds in our universe underperformed their chosen benchmarks over their lifespans, in many cases by hundreds of basis points per annum. Restrictions in investable universes - including, in many cases, oil and gas companies and others not considered haram - impacted diversification, precluding investors from benefitting from several high-performing sectors. In short, screening out investments deemed inconsistent with certain faith-based values often comes at a financial cost. As such, these decisions should be made consciously.
Faith-based investing can be comparatively expensive.
The faith-based ETFs and mutual funds in our survey charge an average of 68 basis points per annum. This is more than 2x over a control group of non-faith-based funds: the average expense ratio for all iShare ETFs is less than half this amount, at 30 bps. Size and the ability to execute at scale impacts expense ratios. Poorer returns and higher fees is a toxic mix.
Faith-based funds often lack transparency.
While all the funds in our survey claim to be inspired by religious texts and traditions, there is very little visibility into the actionable investment principles that are being followed, and insufficient information to judge how and whether those principles are being rigorously applied. For example, while negative screening is the most common investment technique, the subsequent reweighting of stocks in the chosen, more restricted investment universe varies greatly. Some funds rather boldly claim to be "creating the Kingdom of God" without stating exactly what that mean or how exactly it is being promoted. Much more information is needed.
From a fiduciary standpoint, higher fees and broad underperformance may be acceptable to a faith-based asset owner and regulatory authorities if these financial costs were accompanied by some clear social, environmental, economic or spiritual attainments. IEL believes returns are not “concessionary” when they generate demonstrable and measurable benefits that the asset owner seeks, like more low-income housing, reforested land, or less plastic in the ocean. Stated clearly, there is no “concession” for an investor who makes a conscious, informed decision about a return profile twinned with verifiable impact. Moreover, most investors believe lower financial returns and higher fees may be justified when some form of “impact additionality” is proven. IEL agrees. However, very few faith-based funds in our survey universe make explicit claims of having faith-aligned impact. Of those that do - most especially in the private equity and credit worlds - nearly all use non-market standard methodologies for measuring and reporting their impact. Faith-based funds need to have greater analytic rigor to support their mission-aligned claims.
While no one should be forced to invest in companies that contradict their beliefs, it is equally wrong to assume their investment aversion changes the underlying behaviors of those firms meaningfully. It is equally wrong to assume that divestment is financially costless. Most divestment dilutes returns in exchange for no ethical gain. Given this, there is an important discussion to be had about the efficacy of all investment exclusions. Divestment from things like alcohol, tobacco, pork, gambling, pornography and weapons manufacturing has never and will never, by itself, stop these industries from operating. Because divestment eliminates a shareholder’s voice, moreover, it may even make more sense to stay invested in some undesirable companies to impact their operations through shareholder resolutions, as the Adrian Dominican Sisters have demonstrated.
IEL recently reported all these findings to a group of faith-based investment organizations, asking for feedback and criticism of our methodologies. We didnot want to report important findings without first giving those who might be impacted negatively by our study a chance to respond.
One criticism we received involved our decision to measure performance on a “since inception” basis rather than over a specific time period, such as the last three or five years. However, we intentionally chose “since inception” to lower the impact of more recent noise relating to ESG-impacted public equities falling out of favor because of changing political pressures. Another criticism we received was not mentioning that faith-based fund underperformance is not dissimilar to non-faith based fund underperformance. More than 80% of all active funds underperform their benchmark over any ten year period, including those that are faith and non-faith based. One should see this observation as a defense of remaining in broad index funds rather than any active strategy, however. As mentioned above, staying in broad-based index funds is further girded by the fact that such funds carry much lower fees - as little as 3-4 basis points versus 68 basis points on average for faith-based funds. Over the course of decades, much lower fees and higher, compounding returns can generate total differences of +20-30%, or even more. This is a stunning return differential.
In our considered judgment, the discussion of fees and underperformance heightens the importance of measuring additionality and impact. Even though a fund claims to be religiously-inspired, this should not exempt it from established industry practices of IMM - impact measurement and management. Additionality is observable and quantifiable. If one’s investment claims to promote the Kingdom of Heaven, for example, it seems only reasonable to query whether that means eradicating poverty, curing disease, promoting ecological balance and beauty or some other tangible attribute that one may reasonably expect Heaven holds in abundance
At IEL, we believe all investors should be given the information they need to make informed investment choices. Investors should be given what they need to achieve their financial and non-financial goals. This is no less true for faith-based than non-faith-based investors.
Faith-based investing is a growing field, as it should be. IEL remains energetically dedicated to providing transparency that helps asset managers and asset owners achieve conformity on best practices as well as the highly laudable goals of halal,bal taschit, tikkum olam, ahimsa, and loka-samgraha.
Written in collaboration by
Terrence R Keeley is the CEO of the Impact Evaluation Lab and author of Sustainable.
Leo E. Aduan is a Finance Major at the University of Notre Dame.
