Mark Hebner / Mary Brunson

IFA's Quote of the Week - 31 (Kermit the Frog)

 

"It's not easy bein' green."

-  As sung by Kermit the Frog, with lyrics by Joe Rapposo

With plastic grocery bags under the threat of elimination, and gasoline prices having reached nearly $5 a gallon, many Americans have faced the impact of consumerism on the long-term sustainability of the environment. Many seek investments that reflect their environmental concerns, and “green funds” are rapidly cropping up to capitalize on the rise in interest. With an onslaught of funds that have hit the market, it’s important to understand the many ways that such an investment can be accomplished, and to be mindful of the choices you make with respect to green investing.

A fundamental underpinning of the 12-Step Program for Active Investors is that proper investing education enables investors to avoid the behavioral and emotional triggers that can lead to flawed decision making, excessive expenses and inferior returns. Certainly, concerns over the environment can trigger emotional responses among even the most educated investors. After all, no one among us wants to rush headlong into advancing the degradation of the planet. But, when considering this type of investment, it’s important to learn exactly how such funds are created, including how the funds are screened and what constitutes inclusion or exclusion.

Most green fund companies implement a screening process that actively seeks for inclusion in their funds companies engaged in activities considered favorable to the environment. IFA believes that such an objective inhibits broad diversification and undermines the evolution and adaptive nautre of capitalism. Consider that fossil fuel has not vanished from the marketplace altogether, so should it be excluded altogether from a diversified portfolio? Such a strategy may itself prove to be unsustainable.

IFA considers a superior strategy to be a weighting approach that seeks to reward companies that have a favorable impact on the environment, while imposing a penalty of underweighting to those that are viewed as having a less favorable impact and eliminating those that are considered to detract from the environment. This approach enables capitalism to do its job, and to reward investors who invest in a well-diversified portfolio that has about 90% inclusion of the traditional (non-environmentally conscious portfolios).

IFA’s Environmentally Conscious Portfolios seek to identify factors that the manager believes indicate whether or not a company, as compared to other companies with similar business lines, promotes sustainability by pursuing economic growth and development that meets the needs of the present without compromising the needs of future generations. A Portfolio may periodically modify its environmental impact considerations.

Relative to a portfolio without environmental impact considerations, a Portfolio will exclude or underweight securities of companies that, according to the Portfolio’s environmental impact considerations, may have a relatively negative impact on the environment as compared either to other companies in the Portfolio’s entire investment universe or other companies with similar business lines.

Despite the tilt to green companies, IFA's Environmentally Conscious Portfolios are free from industry bias. The typical “green” strategy will purchase the best green companies in a given industry, or they will eliminate industries entirely. Such a strategy creates significant portfolio inefficiencies. However, because IFA's Enviromentally Conscious Portfolios overweight the best and underweight the worst within a given industry, the portfolios' weightings are not significantly altered.  Within each industry, the weight of the worst green performers are redistributed to the best performers, creating an incentive for companies to focus on green corporate governance.

Examples of the types of considerations that are expected to be used to evaluate companies’ impact on the environment are as follows:

Negative Factors:

• Agricultural chemicals: The company produces substantial amounts of agricultural chemicals, including pesticides.

• Climate change: A substantial percentage of the company’s revenues relate, directly or indirectly, to the sale of coal or oil and their derivative duel products.

• Hazardous waste: The company has incurred substantial liabilities, such as significant fines or civil penalties, for hazardous waste or waste management violations.

• Ozone depleting chemicals: The company is a manufacturer of ozone depleting chemicals such as HCFC’s methyl chloroform, methylene, chloride, or bromines.

• Regulatory problems: The company recently has incurred substantial fines or civil penalties for, or demonstrated a pattern of issues regarding, violations of air, water, or other environmental regulations.

• Substantial emissions: The company exhibits markedly high emissions of toxic chemicals into the air and water from individual plants.

• Regulatory problems: The company recently has incurred substantial fines or civil penalties for, or demonstrated a pattern of issues regarding, violations of air, water, or other environmental regulations.

• Negative economic impact: The company’s actions have incited major controversies regarding the quality of life or property values in the community.

• Other environmental concerns: The company has had material involvement in an environmental controversy not covered by other factors.

Positive Factors:

• Beneficial products and services: The company earns substantial revenues through the development of innovative products with environmental benefits, including remediation products, environmental services, or products that promote the efficient use of energy.

• Clean energy: The company has taken notable steps to reduce the impact of its operations on global climate change and air pollution through the use of renewable energy or other clean fuels or through the introduction of energy efficient programs or sale of products promoting energy efficiency.

• Environmental management systems: The company has exhibited a strong commitment to environmental management systems through ISA 4001 certification and other voluntary programs.

• Pollution prevention: The company has established strong pollution prevention programs, including those designed to cut both emissions and toxic uses.

• Recycling: The company either uses a significant percentage of recycled materials in its manufacturing process, or is a major firm in the recycling industry.
• Other strengths: The company has undertaken noteworthy environmental initiatives not covered by other factors.

When considering a shift from your existing investment strategy, it is critical to carefully weigh both benefits and drawbacks. IFA’s Environmentally Conscious Portfolios substantially limit drawbacks.  A significant benefit of IFA’s approach is that it effectively eliminates companies with very low sustainability scores, while increasing the number of companies with high sustainability scores.  This concept encourages companies to improve upon their “green activities,” and fosters change for companies that are not currently seeking improvement in the efforts to go green.  An additional and substantial benefit to IFA Environmentally Conscious Portfolios is that they maintain the tilts toward small and value that provide significant advantage over other index providers. 

Drawbacks associated with Environmentally Conscious Portfolios are a small reduction in diversification as some companies are eliminated from the index, and an increase in the fund expense ratio that is on average about 10 basis points more per fund. As far as performance, there is no scientific data to suggest that Environmentally Conscious Portfolios will have performances that vary significantly from the Traditional IFA Index Portfolios. 

Environmentally Sustainable Investing

While an investment in a green portfolio is a simple choice for many investors to make, the choice of how best to implement a green strategy is not easy. There are many factors to be considered and IFA strongly recommends that such important decisions be made with the assistance of an independent fee only advisor. If you would like to learn more about how to invest with sustainability in mind, or about the investing and environmental benefits of IFA’s Environmentally Conscious Portfolios, please go to ifa.com, or call to speak with an investment advisor representative at 888-643-3133.