Why Democratic-leaning companies outperform Republican-leaning ones.

Commentary about business and finance.
Oct. 12 2006 7:31 AM

Blue Is Green

Why Democratic-leaning companies outperform Republican-leaning ones.

On the campaign trail, Democrats are loudly claiming that they can outperform Republicans in Washington when it comes to policy. Now they're making the same claim about mutual-fund investing.

As Moneybox reported in May, the Free Enterprise Action Fund, a tiny mutual fund run by lobbyists, uses stock ownership to push policies associated with the Republican Party. Through the first nine months of this year, it was up 5.59 percent, lagging the 8.53-percent gain for the Standard & Poor's 500. Starting next week, The Blue Fund will try to demonstrate that Democratic principles aren't simply better for the country—they're better for investors.

The Blue Fund aims to funnel capital to companies that it believes have policies and worldviews that jibe with the Democratic Party. While there are plenty of socially responsible mutual funds that screen stocks for decent environmental and labor practices, "there was no fund available for someone who cared about the political aspects of corporate behavior as well," said Blue Fund co-founder and president Daniel Adamson, a former McKinsey consultant who has also worked in private equity. So, the Blue Fund is also monitoring political contributions to ensure firms really lean Democrat.

The Blue Fund uses a two-phase screening process to pick companies that Democrats can love. First, the managers of its large- and small-cap funds look for companies whose political action committees and top three executives have given more than half of their donations to Democrats since 1996. Then, those politically correct companies must show they are politically correct—i.e., that they measure up on issues like environmental sustainability, respect for human rights, fair treatment of employees, and diversity. (Here is a full list of qualifying companies.)

Given Republican control of White House and Congress and corporate America's general preference for Republicans, only a small minority of the stocks in the relevant indices (the S&P 500 for the large-cap fund, the Russell 2000 for the small-cap fund) pass muster. About 15 percent of the S&P 500 members (75) and about 18 percent of the members of the Russell 2000 (370) qualify for the Blue Funds.

As a result, the Blue Fund is a concentrated index fund whose makeup differs significantly from the S&P 500. Here are the top holdings of the Blue Fund large-cap fund, and of the small-cap fund. The Blue Funds are heavily concentrated on consumer firms, financial services, and technology and doesn't have a single energy stock. (ExxonMobil doesn't donate mostly to Democrats? I'm shocked!) None of the top 10 holdings of the S&P 500, among them ExxonMobil, General Electric, and Citigroup, appears in the top 25 holdings of the Blue Fund. Apple and Google each account for 5 percent of the Blue Fund, and the top 25 stocks including Nike, Starbucks, and Costco, account for 60 percent of the fund. The screening process seems to sift out the small number of American companies that cater to iPod-listening, Nike-wearing, latte-drinking, Internet-surfing, Costco-shopping people with lots of discretionary income and fat 401(k) plans. In other words, coastal and urban Democrats!

There are a few major differences between the Blue Fund and the Red-leaning Free Enterprise Action Fund. While both have lobbyists and politicos associated with them (former Democratic National Committee Chairman Joe Andrew chairs the Blue Fund), the Blue Fund's team includes people who have experience in the asset-management business. And while the Republicans behind the Free Enterprise Action Fund want investors to take it on faith that their approach is good for investors, the Blue Fund has a white paper, complete with graphs, that shows the superiority of their methodology. While past performance is no guide to future performance, the white paper (see Page 3) shows that over the past five years, the Blue Large Cap Index would have beaten the S&P 500 by 13.1 percent annually, and beaten companies that give a majority of their political donations to Republicans by 15.6 percent annually. That's a massive difference. Of course, virtually any market-cap-weighted portfolio in which Google and Apple constitute 10 percent of holdings would have put up similar numbers in the past several years. But Adamson notes that even if you remove the three companies in the Blue Fund with a market capitalization of over $25 billion (Google, Apple, and Costco), the blue companies still outperformed the S&P 500 by three percentage points per year.

So what makes Democratic-leaning companies do better? Adamson attributes the outperformance to what he calls "progressive leadership." Companies with progressive leaders are more likely to innovate and be flexible, more likely to treat employees better (Costco), more likely to work better with outside organizations that can burnish or damage brands (the Gap), and more likely to earn the loyalty of committed customers with lots of disposable income (Starbucks). And all that leads to better profits and performance. Says Adamson: "Nice guys sometimes can finish first."

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