Impact investing is gaining ground rapidly as an investment strategy and a way to address social and environmental issues.
What is impact investing?
Impact or community investing is a strategy that aims to invest in firms that have a specific positive effect on social or environmental issues, while also providing a financial return to investors.
The approach directs capital directly to projects, organisations and businesses that are targeting a specific social or environmental issue.
It usually involves goal-driven investments, for example in social housing projects to alleviate homelessness, or windfarms to promote clean energy.
An example is Circulate Capitals Ocean Fund. Launched in 2019 the funds objective is to fund startups and SMEs that are developing waste management and recycling solutions that prevents ocean plastic waste in South and Southeast Asia.
What are the benefits
This strategy has a common-sense appeal. It means investing in companies that are motivated and often set up specifically to make a positive difference. In contrast, other ESG styles might involve more complicated tasks, such as using shareholder action to change a company whose profits have primarily come from negative social or environmental practices.
An impact approach arguably has the clearest definition, as laid out by the Global Impact Investing Network (GIIN). The GIIN definition is:
‘Impact investments are investments made with the intention to generate positive, measurable social and environmental impact alongside a financial return. Impact investments can be made in both emerging and developed markets, and target a range of returns from below market to market rate, depending on investors’ strategic goals .’
In contrast, some see other ESG investment styles as too vague, subjective or negative in approach. Many also see it as a good alternative or complement to charitable giving as it incentivises the investee company to run more efficiently.
Impact investing can help support sustainable development, creating employment and stimulating economic growth, especially in developing countries.
The United Nations’ Sustainable Development Goals (SDGs) provides a framework by which an impact or community based approach is often implemented.
United Nations’ Sustainable Development Goals
What are the challenges of impact investing?
it is the most concentrated and constrained style of investing compared to Positive screening, Exclusion, and Integration based approaches. That means it has the least flexibility and diversification, although this can also give it more focus and conviction.
There has been a lack of standardised measurement information available. Many managers and research firms still use their own tools, methods and terms. However, the increasing popularity of the United Nations Sustainable Development Goals (SDGs) as a framework for impact targets is helping address this.
As the approach is often focused on niche areas such as social enterprises or regional infrastructure, there can be fewer opportunities across certain regions or sectors.
An increased level of due diligence is often required with impact investing, to ensure financial and social goals are being met, which can increase transaction costs.
Finally, the approach can carry higher risks as many companies are startups, or in the early stage of development.
The Growth of Impact investing
In the latest Global Sustainable Investment Alliance Review (2020) impact or community investing represented under 2% of total sustainable assets. According to GSIR, in 2020, assets in impact investing were around $352 billion, up 42% from 2016.