More mutual fund managers are looking for bonds that help the environment, community

Instead of lending to just the government or some faceless corporation, what if your bond mutual fund also helped to vaccinate kids around the world? Or helped finance a clean-water project or solar-energy farm?

More mutual fund managers are seeking out bonds that not only do well but also promote a positive impact on the environment, society and corporate governance. It's a concept called socially responsible investing, and it's long been dominated by stock mutual funds. But a proliferation of "green bonds," whose proceeds go toward projects with environmental benefits, and similar investments mean more bond funds are using a socially responsible lens.

Fund managers -- and their investors -- aren't selfless, of course. They won't buy a bond unless they believe its potential return will more than make up for its risk, no matter how noble its purpose. That's because managers want investors to use their funds as the core of a bond portfolio, and they know that won't happen unless they deliver equivalent or better returns versus competitors.

"That will be the best way to start the virtuous cycle," says Stephen Liberatore, who oversees about $5.7 billion in socially responsible bond-investing strategies for TIAA-CREF.

His main goal is to deliver better returns than the Barclays U.S. Aggregate Bond index, a widely used benchmark. His TIAA-CREF Social Choice Bond fund (TSBRX) met that goal last year and is doing so this year.

In a virtuous cycle, Liberatore hopes to deliver strong returns, which will draw more investors. That will give him more money to invest, and the increased demand for those socially responsible bonds will mean lower interest rates for the bond issuers, enabling them to do more work.

Liberatore's fund owns everything from Treasurys to mortgage-backed securities, and it targets keeping 10 percent or more of its portfolio in bonds that it calls "proactive social investments." As part of that strategy, he bought a bond issued by Washington, D.C.'s water and sewer authority this summer -- the proceeds are helping to reduce sewer overflows into the city's waterways.

TIAA-CREF launched its Social Choice Bond fund in late 2012, more than six years after it offered a similar stock fund. It's a familiar picture across the mutual fund industry: Socially responsible stock funds are more entrenched than bond funds. Of the 181 mutual funds that Morningstar classifies as socially conscious, 110 focus on only stocks.

That's partially because socially responsible investors long thought they could have a bigger impact because they would have a voice at annual shareholder meetings.

"Back in the day, the logic was that if you couldn't vote a proxy, it was hard to engage with companies," says Cathy Roy, chief investment officer for fixed income at Calvert Investment Management, which manages more than $13.5 billion.

In recent years, socially responsible investors have been presented with more opportunities with the growth of green bonds. The flow has been strong enough that Barclays and MSCI are developing a Green Bond index. A group of investment banks early this year also came together to publish guidelines for green bonds, something they hope will lead to more investment.

Calvert has run bond mutual funds for decades that use a sustainable-investing lens, including the $1.8 billion Calvert Short Duration Income fund (CSDAX) that's in the top 13 percent of its category for 10-year returns.

In October, it launched the Calvert Green Bond fund (CGAFX), which has grown to $23 million in assets, and buys bonds issued by companies that get at least half their revenue from environmentally beneficial technology. It also invests in project bonds that help to develop energy efficiency, transit and other environmentally friendly aims.

The approach to sustainable investing has also evolved over the years, Roy says. In the past, investors took a simple pass/fail approach. Potential investments were screened as either good or bad depending on the data in their spreadsheet. Roy says investors now take a more nuanced look, measuring how much a company limits its emissions relative to others in the industry, for example. They lay that on top of weighing a bond's yield against its risk.

Proponents say a company that's a better steward of the environment or of product safety will be less likely to face fines in the future. It could also be an indication of a management team that's more disciplined in other areas.

For managers of socially responsible bond funds, it also helps to have something concrete that they can show investors.

"Bonds are a part of the world that's sleepy and boring," says Benjamin Bailey, co-portfolio manager of the Praxis Intermediate Income fund (MIIAX). "You can tell people that we have 15 percent of our fund helping people with affordable housing or renewable energy projects -- they're essentially lending money to these projects -- and they didn't know these things were possible."

But the investments that seem to most affect the fund's investors are bonds issued by the international Finance Facility for Immunisation. The group sells bonds backed by donations that governments around the world have pledged to pay in the future. The proceeds of those bonds generate immediate cash that can go toward immunizations for children.

"Instead of waiting years, they were able to immunize many of these kids right away," says Delmar King, another co-portfolio manager of the Praxis fund. "That's the one that's resonated best."