Social Dividends?

November 02, 2006

KLD and Mergent team up to launch a new socially responsible dividend index; does it measure up?

I am a big fan of socially responsible investing (SRI).  I think investors can and should consider the social and environmental impact of their investments. Moreover, I am convinced that if SRI investing is implemented through the use of  long-term index-based strategies, there is little if any penalty for doing so.

As a result, I was excited when Tom Kuh at KLD Research & Analytics told me that his company was preparing a SRI dividend index. I would love for investors to be able to replicate any investment strategy with an SRI approach, should they choose to do so, and equity income is certain a popular strategy right now.

Besides, I figured that the index would stand some conventional wisdom on its head. Think dividends and you think smokestacks, right? The folks who either distrust or dislike SRI (and they are legion) often trumpet the fact that SRI investments suffer from low yields.  If KLD could come up with a dividend index that disproved that theory, it would be quite a coup.

The trouble is that the newly launched KLD Dividend Achievers Social Index (or DASI for short) comes up shy on a number of fronts. The index captures some of the weaknesses of traditional dividend indexes - like a huge weighting in Financial stocks - without the concomitant boost in yield. It feels like "dividend investing lite."

The Methodology

The index has good bloodlines.  KLD teamed up with dividend indexing giant Mergent to create the index, and the methodology was quite simple: KLD laid Mergent's Dividend Achievers screen (which selects companies that have paid increasing dividends for the past ten years) and applied that to two large-cap SRI indexes: the Large Cap Social and Domini 400 Social indexes. Combined, the two screens coughed up 168 companies with a steady history of paying dividends.  KLD put all the companies into the index at equal weights, and said it would reconstitute on a semi-annual basis, on February 1 and August 1.KLD says that the index shows "increased performance and lower volatility compared to an appropriate market benchmark such as the Russell 1000 Value Index."

That's kind of true.  The index does perform well over the past five-year period, delivering 11.61 percent compounding annual returns versus 10.73 percent for the benchmark, with less volatility.  But the KLD index has trailed the Russell 1000 Value over the more recent one- and three-year period, and lags by more than four percent year-to-date (see below).

Index Returns

 

September 2006

Last Qtr

YTD

One Year*

Three Year*

Five
Year*

Ten
Year*

Since 11/1/06 Inception

KLD DASI

1.81%

4.47%

9.05%

13.00%

15.08%

11.61%

N/A

N/A

Russell 1000V

1.99%

6.22%

13.19%

14.62%

17.25%

10.73%

11.20%

N/A

*Source: KLD. Data through 9/30/2006.

That's a mark of backtesting integrity for KLD, as it shows that they didn't gussy up the index to create strong rear-view-mirror results. But it is also a significant lag, and could worry some investors.

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