As responsible investing grows in popularity, investors want to know more about how their capital is addressing the world’s environmental and societal challenges.
Once a niche area dominated by private equity investors, trusts and institutions, impact investing has become increasingly popular among global fund managers, financial institutions, pension funds and insurance companies, extending its reach to retail investors in the process. These large public investors are recognizing the potential to leverage their significant influence to target specific social and environmental challenges and use their investment dollars to deliver positive, measurable impacts, as well as financial returns. In the case of mutual funds, that means everyday investors can now align their investments to make a positive impact on the world, in addition to growing their wealth.
Defining impact investing
In simple terms, impact investing directs capital towards ventures that are expected to yield tangible social and environmental benefits – in addition to profits. It aims to apply the same careful analysis that investment managers use to evaluate a potential investment’s financial benefits to evaluating its ability to make meaningful change against a specific social or environmental goal, such as building renewable infrastructure or improving opportunities for women entrepreneurs in developing countries, as examples. The Global Impact Investing Network (“GIIN”), a non-profit organization dedicated to increasing the scale and effectiveness of impact investing, defines impact investments by the following core characteristics:
INTENTIONALITY: The intention to have a positive social or environmental impact through investments is essential to impact investing. The launch of the UN’s sustainable development goals in 2015 provided the foundation for many investors in the sector.
RETURN EXPECTATIONS: Impact investments are expected to generate a financial return on capital or, at minimum, a return of capital.
RANGE OF RETURN EXPECTATIONS AND ASSET CLASSES: Impact investments target financial returns that range from below market (sometimes called concessionary) to risk-adjusted market rate, and can be made across asset classes, including but not limited to cash equivalents, fixed income, venture capital, and private equity.
IMPACT MEASUREMENT: A hallmark of impact investing is the commitment of the investor to measure and report the social and environmental performance and progress of underlying investments, ensuring transparency and accountability while informing the practice of impact investing and building the field.
According to the GIIN, the impact investing sector is growing rapidly, reaching approximately US$715 billion in assets under management at the end of 2019.
Do impact investments really have an impact?
Impact investors can have diverse financial return expectations (although the majority of investors that responded to the GIIN's 2020 Annual Impact Investor Survey indicated they favoured impact investments that pursue competitive, market-rate returns), but all share the desire for their investments to deliver a positive impact against specific social and environmental challenges. And that impact must be as measurable as the financial return.
As impact investing evolves, the sector continues to gain clarity around the complex questions about how to measure its effectiveness. Some impacts are quantifiable and easily measurable. An investment in clean drinking water infrastructure, for example, can produce an easily measurable impact: number of people with access to clean drinking water. For less concrete impacts, the responsible investment industry is working towards building consensus and clarity around best practices to ensure that investors can continue to have confidence in the effectiveness of impact approaches. Signatories to the Operating Principles for Impact Management developed by the World Bank’s International Finance Corporation, for example, have agreed to a global standard for managing investments for impact. The industry body’s nine principles, outlined below, are meant to reinforce the need to “instill a discipline around impact investing, fostering greater mobilization of capital for impact and a high standard for the social and environmental impact that it can achieve.”