6 March 2019
Guy Opperman was in the pension headlines this month with the publication of a DWP consultation on ‘Investment Innovation and Future Consolidation’.
A key feature of the report is enabling trustees to easily access investments that help make the world a better place. Better known as impact investment. This is an exciting and rapidly evolving area for pension schemes and charities. However an important point which the headlines missed was that this should be done without reducing expected financial returns to their beneficiaries.
Take a step back…what is impact investing?
Impact investing is a subset of responsible investment. In other words, it’s one approach to incorporating environmental, social and governance (ESG) considerations into investment. Thinking in the industry about impact investment continues to develop but appears to be coalescing around a definition of “investment made with the intention to generate positive social and environmental impact alongside a financial return”. The key here is that the financial return is very important, and the real-world benefit is by design rather than by accident.
Impact investment is not philanthropy. The investment must address societal challenges that also generate competitive financial returns for investors.
As an approach to investment, it can be applied over the full range of asset classes, for both public and private markets.
Measuring the impact of an individual investment is easier in private markets, where (unusually perhaps) there is more data available than in public equivalents. In the private sphere, the companies receiving debt or equity funding are typically smaller than those in public markets and have more defined business plans, so it is easier to measure the impact that they are having.
Why look at it now?
All pension scheme trustees will need to have an ESG policy written into their Statement of Investment Principles by 1 October 2019. Whilst many trustees will focus, at least initially, on consideration of ESG factors and active stewardship within mainstream funds, others will start to consider specialist alternatives – such as impact ones – that seek to provide positive social and environmental returns. This could be because the trustees have strong views on the importance of these factors to long-term investment returns or because they are important to their members.
Impact investing is a developing area, and more funds and strategies are emerging on a regular basis. One challenge is that new strategies do not have a track record and some funds currently only have seed money invested. However, there are some established managers in this field and others who bring relevant expertise from related strategies.
Another challenge is scale – many of the private funds are small. However, as more institutional investors become interested, we anticipate increasing supply from established players. Larger funds should result in more diversification of underlying investments, which should reduce risk for the end investor. Alternatively, if trustees have the governance budget, they may wish to split the investment across two or three funds, each targeting a specific area.
What kind of things could an impact fund invest in?
Many of the funds we have researched align their investments with the UN’s 17 Sustainable Development Goals. These global goals aim to end poverty, protect the planet and ensure that all people enjoy peace and prosperity. For example, seeking to achieve improvements in education and healthcare, and provide access to affordable and clean energy, clean water and sanitation. Specific examples of investments held in the funds we have researched include:
- A Dutch company in environmental sciences which provides innovative solutions to improve the efficiency of the global food supply chain and help minimise environmental impact at the same time.
- An India-based housing finance company focusing on the low and middle-income segment in semi-rural and rural areas. The target outcome is to enable people to increase their security and reduce poverty through buying their own homes.
These investments were selected with the aim of producing market-rate returns (commensurate with the level of risk taken), whilst creating a real-world benefit at the same time.
What can I do to learn more?
LCP are hosting a roundtable forum to discuss our latest research and recommendations on impact investment and how to take these ideas forward. If you would like to be part of this interactive sessions then please email email@example.com.