Louisiana Salge, an impact specialist at wealth manager EQ Investors, dispels some of the common myths associated with impact investing.
The number of investors who would like to make a positive impact to society and the environment continues to grow. However, a number of misconceptions prevent some savers from taking the plunge.
In no particular order, here they are
a) “Impact investing is just like ESG investing”
We believe the simplest factor distinguishing the logic of ESG (environmental, social and governance) investing and impact investing is that ESG focuses on the quality of a company’s operations. In contrast, impact investing primarily focuses on the purpose of a company’s main products and services.
ESG investing aims to invest in companies that show efforts to reduce their negative effect on some of their stakeholders, for example their employees, whereas impact investing targets companies which provide solutions that solve the biggest issues facing the world today – and do so in a responsible manner.
b) “It will sacrifice my investment returns”
Impactful companies turn society’s greatest challenges into profitable business opportunities. These companies benefit from the growing global demands for their products and services and greater regulatory support.
A recent report found that bold climate action could deliver at least $26 billion (£20.5 trillion) in economic benefits through to 2030, compared with business-as-usual.
Although impact investing has a shorter track record versus traditional forms of investment, market evidence suggests that it can produce returns that are in line with the market or above. For example, EQ Investors’ Positive Impact Portfolios have outperformed their conventional benchmarks since launch six years ago.
By targeting sustainability themes, which by definition are long-term societal needs, impact investments also have much greater potential to generate returns over the long-term. And the sustainability of investment returns should matter for long term investors
c) “Impact investing mostly targets early-stage companies”
Impact investment opportunities exist across a range of asset classes and company sizes. EQ’s Positive Impact Balanced Portfolio shows a healthy split between 14% small, 39% medium and 47% large-cap companies.
While impact investors seek out innovative companies, these aren’t necessarily early-stage. We see many mature corporates switching up their core offerings to reflect the changing needs of society.
While a number of those impactful companies may have been small in size 10 years ago, thanks to above-average growth, they have now become mid and large cap companies. A good example being DS Smith, which recently joined the FTSE 100 index.
There is ample evidence that sustainable businesses are well-managed, display greater innovation and benefit from gaining exposure to sustainability themes.
d) “It is a narrow investment universe”
There is no single defined investment universe for impact investors. Investor preference defines the opportunity set by deciding on risk, return and impact theme targets. The amount of companies eligible for investment can depend on the impact or ESG standards set by investors. While this means that we can’t give a reliable impact universe estimate, opportunities are larger than some might assume. For example, the EQ Positive Impact Balanced Portfolio has exposure to more than 630 unique companies globally.
This universe is also expanding. As much as investor interests are turning to sustainability, companies’ business models are too. For example, in 1999 Impax Asset Management had an investment universe of 250 companies which generated more than 50% of their revenues from environmental solutions. This universe has now grown to 1,100 companies.
Our own research shows that while the weighted average valuation (price to earnings ratio) of the companies we invest in is higher than FTSE 100 companies, the average earnings growth is two times higher. As a result, the valuation adjusted for growth (price to earnings to growth ratio) is cheaper than the FTSE 100 average.
e) “Impact investing is too volatile for private investors”
Many high-impact investments are located in more volatile markets, such as emerging markets, but it is also true that sustainable businesses exhibit lower volatility. While long track record data is not yet available across all risk categories for the impact investment sector, we have evidence that EQ’s Positive Impact Portfolios have shown better risk-adjusted returns (factoring in volatility) than their conventional benchmarks since inception.
Impact investment is an investment strategy, not an asset class in itself. As discussed, opportunities exist from small to large companies, equity, debt and real assets – and risks vary between these.
Therefore, portfolio managers are able to create options for different ‘risk appetites’. This way, any private investor can use their ISA or pension to contribute to positive societal change.