Practical Applications of Catholic Values and Direct Indexing: No Performance Penance Needed

Abstract

In Catholic Values and Direct Indexing: No Performance Penance Needed, from the Summer 2022 issue of The Journal of Beta Investment Strategies, authors Rafika Shibly (of Citi Private Bank) and Andrew Subkoviak and Paul Bouchey (both of Parametric Portfolio Associates) demonstrate that Catholic investors can own market-like portfolios that align with their values without sacrificing returns. Catholic values–based investing uses guidance from the Catholic Church to help invest in companies that promote human dignity and the common good, while divesting from companies that cause harm. Catholics can invest in existing Catholic values–based index funds or use direct indexing to create their own portfolios while deciding for themselves which companies to exclude.

The authors demonstrate that two existing Catholic-values indexes have outperformed broad-market indexes like the S&P 500 and have posted higher risk-adjusted returns. However, they exhibit significant tracking error relative to their benchmark indexes, meaning their returns deviate from the benchmarks year to year. The authors demonstrate that investors can improve their portfolios’ consistency with benchmarks by creating separately managed accounts (SMAs), then using direct indexing to create portfolios that mostly match benchmark indexes while screening out some companies, and then using portfolio optimization to reweight investments in ways that reduce tracking error.