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Sustainability Matters

How to Apply a Racial Equity Lens to Your Investments

What can investors do to dismantle systemic racism? Here are some ideas.

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We've passed the one-year anniversary of George Floyd's murder by a white Minneapolis police officer, which ignited worldwide protests and underscored the urgent need to dismantle systemic racism in the United States. What has been built up for centuries cannot be torn down in an instant. Change must come from many directions, including those that may not seem obvious at first glance. Like investing.

If you are fortunate enough to be an investor, you have the means to contribute to change by applying a racial equity lens to your investments. Here are some thoughts on how to do it.

Sustainable investing is about delivering competitive financial results while driving positive environmental, social, and governance, or ESG, outcomes. That includes better racial equity outcomes. Sustainable funds address racial equity in several ways: Some may not invest in companies that have a negative impact on Black communities, such as for-profit colleges or companies that support the prison-industrial complex. Sustainable funds typically scrutinize public companies' workplace diversity, equity, and inclusion policies; board diversity; overall treatment of workers; negative impacts of products and services on Black communities; and political expenditures. The latter have taken on added importance in light of corporate campaign contributions to politicians who support the thinly veiled racist lie that the 2020 presidential election results were inaccurate and the subsequent efforts to limit voting rights.

As Calvert Research and Management CEO John Streur wrote last June, "Ending racism is a responsibility of corporations, and corporations must recognize that their current efforts to promote their core values, and diversity and inclusion programs, fall far short of what is needed today."

Companies with poor performance on racial equity issues may be avoided in sustainable fund portfolios, but even more important is that, through engagement and proxy voting, sustainable investors can push for change at the corporations they hold in their portfolios. When dialogue doesn't work, sustainable investors propose shareholder resolutions for a vote at the company's annual general meeting. Shareholders, in turn, have been supporting ESG-shareholder resolutions at record levels in recent years, which can spur corporate action even when a vote fails to attract majority shareholder support.

Sustainable investors press companies on their diversity, equity, and inclusion policies; on the composition of their boards; on the ways they compensate employees--particularly lower-wage workers whom we are more fully recognizing as essential during the pandemic; on labor relations generally; and on where corporate lobbying and political expenditures go.

This year, sustainable investors are urging companies to make public the racial, ethnic, and gender makeup of their employees. This can be done through disclosure of company EEO-1 filings. Companies must file an annual EEO-1 form with the U.S. Equal Employment Opportunity Commission but are not required to make this information public. Doing so would help investors and other stakeholders evaluate corporate diversity initiatives. Dozens of EEO-1 disclosure resolutions have been proposed. Just this week, DuPont shareholders voted overwhelmingly in favor of EEO-1 disclosure, with an astounding 84% of voted shares in support. DuPont (DD) management had recommended that shareholders reject the proposal.

Going beyond EEO-1 disclosures are proposals for companies to conduct racial audits, in which an outside auditor would assess whether and the extent to which business practices are perpetuating systemic racism. More than a third of shareholders at Citi Group (C) and Johnson & Johnson (JNJ) supported racial audit proposals in recent meetings, while JPMorgan Chase (JPM) and Amazon.com (AMZN) shareholders will vote on similar proposals this month. BlackRock (BLK), which has increasingly embraced sustainable investing in its own asset-management business, agreed to an audit, prompting shareholders to withdraw their resolution on the topic.

So, if you want to do your part to dismantle systemic racism and you are an investor, diversified sustainable equity funds that have active engagement programs are the way to go. The ones that are most committed to this have reports readily available outlining their engagement actions and proxy votes. Our November 2020 report highlighted funds that voted most often in favor of ESG-related shareholder proposals.

Most sustainable funds, of course, concern themselves with a broader range of ESG issues. But two--only two!--exchange-traded funds have a racial equity focus. 

ImpactShares NAACP Minority Empowerment ETF (NACP), which tracks the Morningstar Minority Empowerment Index, provides exposure to U.S. companies with strong racial and ethnic diversity policies. NACP is a nonprofit ETF, and any excess fees go to support the NAACP. It also engages with companies on what they need to do better in order to be candidates for inclusion. This ETF will not reach its three-year anniversary until July but has performed in line with other large-cap U.S. ESG funds and can be easily slotted into an investor’s core U.S. equity allocation.

An even more recent arrival is Adasina Social Justice All-Cap Global ETF (JSTC), launched in December. The fund tracks the Adasina Social Justice Index, “screened for social justice and designed to support progressive movements for change.” In addition to broad ESG evaluations, JSTC screens on a number of racial justice concerns, including activities that support the prison-industrial complex, for-profit colleges, and corporate diversity and inclusion policies. The fund invests outside the United States and thus provides exposure to large-cap companies globally.

It probably wouldn’t surprise you that both of these young ETFs have small asset bases. As of today, NACP’s is $28.7 million and JSTC’s is $52.5 million. By being among those willing to go first in making an investment in these ETFs, you can help send a signal to companies that more investors are concerned about racial justice.

What about the rest of your portfolio? Investing in bonds can have even more impact. Not only can bond-fund portfolio managers make more-robust risk evaluations of corporate bonds using ESG assessments, they can focus on bonds' use of proceeds to evaluate their social or environmental impact. In fact, some bond funds are making impact their central thematic focus by concentrating on green bonds that address climate-related problems or on social bonds that support affordable housing and economic development in underserved communities.

TIAA-CREF Core Impact Bond (TSBIX), for example, evaluates corporate issuers on ESG while also devoting 30% to 40% of assets to bonds that have a direct and measurable social impact. Two long-established funds, RBC's Access Capital Community Investment (ACCSX) and Community Capital's CCM Community Impact Bond (CRAIX) (formerly known as CRA Qualified Investment) focus on affordable housing, small business, and minority advancement in low-to-moderate-income communities. All these funds achieve social impact while providing exposure to high-quality, intermediate-term bonds similar to what investors would get in a conventional bond fund.

These are taxable funds, but if you invest in tax-free municipal bonds, there are now 10 muni-bond funds in the U.S. that focus in areas like affordable housing, education, economic and community development, and healthcare in marginalized and underserved communities. Examples include AB Impact Municipal Income (ABIMX), Calvert Responsible Municipal Income (CTTIX), and Columbia US Social Bond (CONAX).

And then there is cash. Consider banking at one of the many community development financial institutions. These include banks, thrifts, and credit unions throughout the country that devote at least 60% of their business to benefit low-income communities that are underserved by traditional banks. To find a CDFI near you, here is a list of these institutions certified by the U.S. Treasury Department. Many CDFIs offer certificates of deposit in addition to checking and money market accounts.

Or take a look at the innovative online bank Aspiration, which helps its customers bank, spend, and give in an environmentally and socially conscious way. Its sweep program is with a group of community banks, thereby increasing their deposits and the money they can lend to underserved communities. Aspiration encourages its customers to spend their money at businesses with impact and gives away 10% of its earnings to nonprofits.

If you are wealthy enough to be an accredited investor, you have ample opportunity to make additional impact investments, be they market rate or below market rate. But any investor, large or small, can purchase a Community Investment Note from Calvert Impact Capital, a nonprofit (not affiliated with Calvert Research and Management) that has invested in communities left out of traditional capital markets for 25 years.

We are in a take-action moment in America right now. In taking action, don't overlook your financial resources. Through the use of sustainable equity funds, impact bond funds, and community banking, you can activate your entire investment portfolio and your bank account. Doing so gives you the ability to use your money in impactful ways as you save it and grow it, and then again when you donate it.

Jon Hale (jon.hale@morningstar.com) has been researching the fund industry since 1995. He is a director on Morningstar’s ESG Strategy team. While Morningstar typically agrees with the views Jon expresses on ESG matters, the articles represent his own views.

Disclosure: Morningstar, Inc. licenses indexes to financial institutions as the tracking indexes for investable products, such as exchange-traded funds, sponsored by the financial institution. The license fee for such use is paid by the sponsoring financial institution based mainly on the total assets of the investable product. Morningstar, Inc. does not market, sell, or make any representations regarding the advisability of investing in any investable product that tracks a Morningstar index.

Jon Hale does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.