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Investment is required on a huge scale to address the world’s biggest challenges, such as climate change, poverty and inequality. The UN Sustainable Development Goals (UN SDGs) and the series of targets underpinning the goals, have provided a powerful global framework for all public and private stakeholders, including governments, regulators, civil society (the ‘third sector’) and the private sector, for tackling social and environmental issues.
With an estimated funding gap of up to US$6 trillion annually needed to meet SDG targets, more needs to be done to mobilise capital on the scale required.
Whether investing to fund the construction of a solar park or wind farm, or new affordable housing, impact investing has a clear role in supporting the aims of the SDGs by putting capital to work in investments and projects with positive real-world impact. The Global Impact Investment Network’s (GIIN) 2018 Survey(1) suggests there are $228 billion of impact investing assets under management – a figure the GIIN notes serves as the latest best-available ‘floor’ for the size of the impact investing market.
Impact funds are often small and concentrated, such as microfinance funds, and in many cases focus primarily on the impact of the investments, with financial returns a secondary consideration i.e. ‘impact first’. Although surveys signal a diverse and dynamic impact investing market, there is still some way to go before it reaches critical mass. So, how can impact investing be scaled up so that it makes a real difference?
Increase access to impact investing opportunities
The ‘use of proceeds’ bond format has been the result of innovation in traditional fixed income market and there has been a strong take up from institutional investors. The market for green bonds is fast growing albeit still in the early stages of development – the global universe is estimated at around $221 billion and is forecast to reach $1 trillion by 2022(2) – but offers an imperfect ‘solution’ for impact investors.
The breadth and depth of the market currently does not easily allow the construction of a well-diversified, institutional-scale portfolio, while the lack of global green bond standards which issuers must adhere to, has led to some concerns about ‘greenwashing’. This places the onus on investors to perform the due diligence needed to ensure the most impactful projects receive the necessary financing. New thematic bonds are starting to appear in the market, including social bonds, sustainability bonds, ESG-bonds and SDG-bonds, but issuance volume remains a fraction of the overall bond market.
Impact investing typically does not take place in large-cap public markets as there tends to be less ‘pure-play’ impact opportunities available. However, as the GIIN 2018 survey finds, an allocation of 14% of capital through public equity demonstrates a growing practice (and acceptance) of impact investing through publicly-listed equities. By adding a third dimension – ‘impact’ – to traditional risk-return analysis, it is possible to invest in companies that will have some positive impact, particularly compared to peers.
Catalyse collective action
Together with the UN’s call to action with the SDGs, there are several key global and public-sector initiatives shaping the sustainable finance agenda that look set to promote the growth and development of the impact investment market.
The PRI’s Sustainable Development Goals (SDGs) agenda: The UN-supported Principles for Responsible Investment (PRI) have included the SDGs and impact investing as part of their aim to bring responsible investors together over the next 10 years to work towards sustainable markets that contribute to a more prosperous world for all. This includes setting out steps and developing tools for investors to align their investment activities with the SDGs and introducing the SDGs into the PRI Reporting Framework.GIIN: There is positive momentum behind impact investment, yet impact investing is still a relatively small, niche area of broader investment practice. In its report, “The Roadmap for the Future of Impact Investing: Reshaping Financial Markets”, published in March 2018, the GIIN presents a vision for more inclusive and sustainable financial markets and articulates a plan for impact investing to lead progress toward this future.
European Commission’s Action Plan on Financing Sustainable Growth: The High-Level Expert Group (HLEG) on sustainable finance appointed by the European Commission (EC) to help develop an overarching and comprehensive EU roadmap on sustainable finance, is one public sector initiative that is helping to steer private and public capital towards sustainable and impact investments. In May, the Commission adopted a package of measures as a follow-up to the recommendations announced in its Action Plan, with all actions to be rolled out by Q2 2019.
Green Finance Taskforce: The Green Finance Taskforce published an extensive report in March 2018; “Accelerating Green Finance”, which sets out specific recommendations on how to accelerate green finance investment in the UK – many of which are intended to drive both supply and demand of environmental impact assets. Policymakers are currently reviewing these recommendations and are expected to respond in full later in the year, with many expected to find their way into government regulation.
Take a multi-theme approach
The current impact investment market offers a ready supply of diverse and viable opportunities to tackle the world’s most pressing social and environmental issues, but the efforts underway to develop and scale up impact investment will help the industry reach the point of critical mass.
Today investors can put their capital to work in multi-theme private debt impact strategies that offer attractive returns in excess of public markets for equivalent risk – often referred to as an illiquidity premium – and strong positive impact through ‘pure play’ impact investment opportunities. We advocate a multi-focus approach that includes both a broad range of environmental and social impacts to ensure diversification and provides a wide opportunity set to maximise returns.
This is because you need access to a broad range of asset types to be able to source the opportunities to build a diversified portfolio and yet remain selective about which assets make it into a portfolio.
(1) Source: “Annual Impact Investor Survey 2018”. The GIIN. Total reported AUM based on collective data from 229 survey respondents.
(2) Source: “Climate Bonds State of the Market Report 2017”, Climate Bonds Initiative, September 2017.
Richard Sherry is Director of Alternative Credit at M&G Investments.
This article was sponsored by M&G and RI editorial staff were not involved in the creation of this content.
For our latest insights on impact investing and to learn more about our approach: https://www.mandg.com/impactinvesting
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