What is Impact Investing?

You’re probably already aware of socially responsible and ESG investing – the meteoric rise of sustainable, ecologically and socially conscious funds has been impossible to ignore. Consumers and business alike have taken notice, with the sustainability market expected to reached $150 billion in 2021.

But there’s a new game in town, and it’s called impact investing. 💡

Most people aren’t even aware of impact investing — but it’s already experiencing rapid expansion and growth. The impact investing market has increased from $77.4 billion in 2015 to $715 billion in 2020. And to make the matter even more intriguing, this new investment approach is showing no signs of slowing down – even in the midst of unprecedented global crises.

Impact investing has the potential to be a game-changer. The relatively young sector has already demonstrated tremendous growth and offers new solutions to pressing global issues. It allows us to align our investments with our values – and perhaps for the first time ever, we can put our money where our mouth is – and profit by doing so at the same time.

So, what is impact investing? In short, it’s the logical next step that follows after SRI and ESG – an investment that seeks to secure both financial returns, and tangible, measurable social benefits. That’s definitely an interesting proposition – and we’re here to help you get acquainted with this new approach to investing.

To provide you with everything you need to know about impact investing, here are the main topics we’ll cover:

The Basics of Impact Investing 👨‍🏫

Impact investing is one part of the larger sphere of socially responsible investing. SRI is an umbrella term – it encompasses a variety of strategies and methods, but all of them have one thing in common – the desire to cause real, positive change in the world.

In the wider SRI ecosystem, impact investing is the latest values-based approach to investing. It seeks to maximize social benefits while still firmly staying in the arena of investment – we’re not talking about philanthropy here. Profits are very much a part of the equation – but they’re not the only goal.

Despite the turbulent impact financial markets have suffered due to the ongoing COVID-19 pandemic, investor confidence remains steady when it comes to impact investing. Without a doubt, there’s a lot to like.

What Does the Term “Impact Investing” Mean? 🌳

Impact investing is defined as investing in companies, organizations, funds, and vehicles with the intention of generating a measurable positive social, economic, and environmental impact, as well as profits. 

The expectation of returns distinguishes impact investing from philanthropy. However, impact investors target a range of returns, which can vary depending on their further-reaching, strategic goals. 

Perhaps the best way to define impact investing is through the GIIN’s own Core Characteristics of Impact Investing, which are:

• Intentionality – The clear and stated intent to achieve socially beneficial goals.
• Investment with return expectations – Investments are expected to generate profits, or in the very least, a return of capital.
• Range of return expectations and asset classes – The utilization of various asset classes, such as cash equivalents, venture capital, and private equity, and a range of targeted returns that vary from below market to market-rate.
• Impact Measurement – The commitment to measure, report, and improve on the progress made toward a specific goal.

How and When Did Impact Investing Start? 🌱

Impact investing is the latest and most proactive form of socially responsible investing. The ideas that provide the foundation for this type of investing have been present for ages – but impact investing as we now know it coalesced in the mid-2000s.

Two significant events mark the beginning of impact investing. The first is the publishing of the United Nations Principles for Responsible Investment, which evolved into an investment network that currently represents over $70 trillion in assets. The second is the coining of the term itself by the Rockefeller Foundation and the founding of the Global Impact Investing Network (GIIN).

How Big is the Impact Investing Market? 📊

According to the Global Impact Investing Network, the size of the impact investing market in 2020 is estimated to be at least $715 billion – although it is quite likely even larger than that.

The GIIN only developed the methodology used to measure the relatively new market’s size in 2019 – and most of the data currently used takes into account approximately 1,720 organizations and the assets under their management as of the end of 2019.

Impact Investor Assets Under Management (AUM)

Are Impact Investments Less Profitable? ⚠️

No – not necessarily. The rapid growth of the industry, as well as the continuing confidence of investors speaks to the fact that impact investments don’t have to sacrifice profits to achieve their social goals.

In fact, a large majority of impact investors are satisfied with how their investments are performing. According to the GIIN’s 2020 survey, 20% of investors are seeing investments outperform expectations, while 68% say that their investment is performing in line with their expectations.

Who Are the Biggest Impact Investors?

There is an interesting development in the world of impact investing that might lead to a radically different picture a few years down the line. The largest institutions and players in the financial market haven’t turned a blind eye to this new investment method – and industry giants such as Bain Capital, Goldman Sachs, and Blackrock have begun to enter the market as well.

Some of the biggest impact investors in the market today are:

Unfortunately, access to impact funds via stock brokers is progressing a bit slower – however, stocks brokers are moving rapidly into ESG investing, which is a pretty good sign of things to come.

Why is Impact Investing Important?

Impact investing seeks to bridge the gap between what has traditionally been the focus of philanthropic grantmaking, and investment, by relying on data and metrics. The issues of sustainability and the wider social costs of our investment practices have never been more clear – and unless resolved, climate change and wealth inequality will cause unimaginable turmoil.

The challenges facing the world have proven to be too much for philanthropy alone to handle – private capital must be mobilized to solve the most pressing issues that we are faced with today. Impact investing offers us an opportunity to expand the market, beget greater purchasing power worldwide, and establish businesses that will stand the test of time. 

Sustainability and climate change are pressing issues – and even the largest financial institutions have taken notice. Impact investing is the best way to address those problems.

The old adage that you can do well while doing good still stands – but impact investing is bringing us a completely new point of view – that you can do well by doing good.

How Impact Investing Works 🎯

We’ve already covered the basics of impact investing – but definitions, market size, and the origins of this investment strategy do little to explain how it operates in the real world.

Impact investing is a dynamic, rapidly-growing sector – it is still in its infancy and has yet to completely crystalize. However, we can already identify some of the best practices and norms in the industry – and we’ll do our best to explain some of the practical details down below.

What Do Impact Investors Look For? 🔎

Impact investors are looking to achieve both financial returns and positive social outcomes. Although this might seem simple at first glance, a lot goes into making that happen.

To attract the attention of investors, a business needs to have a clear goal in mind, as far as positive change goes. This entails the use of accepted metrics, as well as a clear-cut strategy toward reaching goals.

On the business side of the field, investors are always eager to find partners that can provide experience in the field, as well as a well-thought-out, solid business model that can guarantee a return on investment.

While most investors are looking for standard risk-adjusted market-rate returns, research from the Global Impact Investing Network (page 58)  shows that 33% of investors are targeting below-market-rate returns.

How is the Impact of an Investment Measured? 📐

Impact investing relies on metrics and data. How the impact of an investment will be measured will depend on the sector, goals, and methodology of the investor.

For example, an impact investor in the agriculture sector might look at average agricultural yield, water use, and pesticide use, while those in the energy sector might measure energy savings, greenhouse gas emissions avoided, or the total amount of energy generated.

What Metrics Are Used to Measure Impact Investing? ⚡️

No, they aren’t as of right now – but a huge effort is being undertaken industry-wide to standardize the metrics that are used in order to streamline further investments and compare the real efficiency of projects.

The biggest step toward this lofty goal is the GIIN’s IRIS+ system – a catalog of generally accepted impact investment metrics that is already in use by over 5,800 organizations. The GIIRS (Global Impact Investment Rating System) also deserves praise, but IRIS+ still takes center stage – with the system being aligned with over 50 standards bodies.

How Do I Start Impact Investing? 🏁

Impact investing is still a relatively new phenomenon – unfortunately, this means that most channels are still reserved for high net worth investors. However, this doesn’t mean that all avenues are closed to those who want to contribute, but don’t have the means to invest large sums.

Until the industry at large matures and becomes more accessible, SRI and ESG investing are a great way to align your investments with your values and allow you to familiarize yourself with the landscape. In truth, a large number of SRI and ESG investing options overlap with impact investing – with more and more companies moving to a model that factors in and measures impact.

The easiest and most straightforward way to get into impact investing is by purchasing bonds – to be more specific, green and sustainability bonds. Robo advisors are another field that is closely tied with SRI and ESG investing – with Wealthsimple leading the charge on that front, and Betterment coming in at a close second. And if gender equality is a cause near and dear to your heart, Ellevest merits your consideration as well.

As you must know by now, your journey to impact investing first starts with choosing the right broker. Here are our top picks for platforms that facilitate environmentally-conscious investing:

How Do I Find Impact Investing Opportunities?

There are a couple of resources that can help you identify impact investing opportunities. We’ll single out just a few of them here:

• The peer vetted Toniic directory, which covers all asset classes
• The US SIF’s Sustainable, Responsible, and Impact Mutual Fund and ETF Chart
• Sustainable Investing’s SRI Funds Directory

Investing in single stocks, researching them, and creating a profitable portfolio that is in line with your values takes a lot of time and effort – even if you’re just aiming for average returns. For this reason, we recommend sticking to ETFs and mutual funds at the moment – at least until the principles of impact investing become more mainstream.

An Example Impact Investing: The Mining Sector ⛏

Mining might not be the first thing that springs to mind when talking about sustainability and positive social change – but the mining sector allows us to get a detailed, interesting take on why impact investing is necessary.

The fact of the matter is, resource extraction, particularly when it comes to precious metals, isn’t going anywhere. The industrial development of emerging economies such as China and India is only going to increase the world’s appetite for precious metals – and therefore make the need for mining even greater.

On paper, that should be a good thing. But nothing happens in a vacuum – and with 95% of millennial investors being interested in sustainable investing, the mining industry could soon face a lot of trouble if it doesn’t evolve with the times. The ongoing generational wealth transfer from baby boomers to millennials can only serve to exacerbate this potential crisis, as a more ecologically aware generation takes the reins of the world’s economy.

New Standards and Self-Regulation 🌎

Thankfully, significant advances have been made within the industry in the past decade. Applying ESG criteria to investments has become standard practice for mining companies.

Associations such as the International Council on Mining and Metals (ICMM) require adherence to socially-conscious principles as a prerequisite to membership. Climate change, the rights of indigenous peoples, and fostering a positive relationship with local communities have become common topics – something that could hardly have been imagined in the mining sector a decade ago.

Spurred on by the tragic Brumadinho mining disaster, the ICMM, in cooperation with UNEP and UNPRI, launched the new Global Industry Standard on Tailings Management. In an unprecedented move of self-regulation, the mining industry has started to look into curtailing many of the potential risks of tailing dams, such as acid drainage and contamination by toxic metals.

At the same time, other organizations like the Alliance for Responsible Mining have begun to develop supply chains that focus exclusively on conflict-free and sustainable mining. The ARM has also developed two new standards for gold – Fairtrade and Fairmined, and it currently represents close to 20 million miners – the majority of whom run small-scale, artisanal operations.

These are welcome changes – and direly needed in the mining industry. These new trends have begun a shift toward a more responsible and sustainable mining sector – and such efforts go a long way in restoring the confidence of investors and attracting new ones.

Impact Investing, ESG, SRI Compared ⚖️

We’ve already established what defines impact investing and what makes it stand out in the wider field of SRI and ESG – but these are closely related terms, and more often than not, these approaches work in unison rather than competing with each other.

If impact investing interests you, ESG and SRI investing certainly deserve some of your attention as well. Nobody says that you have to pick and choose – the best course of action, perhaps, is to combine all of these approaches into an effective strategy.

However, you’ll need to understand the (sometimes subtle) differences between these approaches. Let’s take a look at what separates these investing strategies – and what they have in common.

What’s the Difference Between Impact Investing and Socially Responsible Investing?

Impact investing is a subset of socially responsible investing. While SRI seeks to divest from investments that have harmful effects, and avoid further investments in areas which might do harm to the common good, impact investing takes things a step further. The simplest way to think about impact investing is to think of it as proactive SRI.

The goal of impact investment isn’t simply to avoid harm – it is to intentionally effect positive change in the world. This approach encompasses actively participating and investing in projects that provide real, tangible, and measurable benefits to society at large while providing returns at the same time.

To summarize, the difference is in intent. SRI seeks to avoid harm – impact investing seeks to effect good.

What is “Additionality” in Impact Investing?

In impact investing, additionality presents a tangible and measurable social benefit that would not have occurred if an investment hadn’t been made.

It’s a term that is used to differentiate between positive change that would have happened regardless of a particular investment being made and the change that is a direct result of an investment.

While it might sound simple at first, additionality is hard to measure. Further developing the methodology used to gauge an investment’s direct impact will be one of the main goals for the entire sector of impact investing in the coming years.

How Did Socially Responsible Investing Begin?

Socially responsible investing isn’t a particularly new idea – it’s a concept that relies on ethical concerns that have been raised for millennia. Seeing as those concerns have been present for so long, it comes as no surprise that religions played a large role in establishing the frameworks that would eventually coalesce into socially responsible investing.

The modern version of SRI draws its roots primarily from two religious groups – the Religious Society of Friends or the Quakers in North America, and the Methodist movement in Great Britain. 

The Quakers are famed for their simplicity, integrity, and opposition to violence – and the 1758 Quaker Yearly Meeting in Philadelphia prohibited members of this group from participating in the slave trade. As an interesting side note, some of the world’s most famous financial institutions, such as Barclays and Lloyds, were founded by Quakers.

At the same time, in 1750’s Great Britain, John Wesley and his Methodist Movement outlined the basic premises of socially responsible investing – with Wesley’s famed sermon “The Use of Money” urging his followers to avoid harming others with their business practices. 

This not only included avoiding industries with shaky moral foundations – so-called “sin stocks” such as weapons, alcohol, and tobacco – but also businesses that might cause harm to their employees – such as chemical production.

What Are the Differences Between ESG, SRI, and Impact Investing?

ESG refers to environmental, social, and (corporate) governance factors. These criteria are used to measure the impact and sustainability of a business.

ESG factors cover a wide range of issues – from greenhouse gas emissions, water usage, waste management,  human rights, health and safety standards, data protection, and gender equality to board composition, executive compensation, and shareholder participation.

The use of ESG factors has become quite widespread and commonly accepted – as these metrics can also allow investors to more accurately gauge returns.

SRI, or socially responsible investing, is an investment strategy that seeks to avoid investing in harmful businesses or businesses that don’t match up with the investor’s values. SRI commonly makes use of the same metrics and factors as ESG.  

The difference is that SRI is exclusionary, and seeks to avoid harmful investments, while ESG actively seeks out investments based on positive performance in these three areas.

Impact investing entails intentionally generating positive social impact, as well as profits. These positive changes are tracked, measured, and planned – with the social benefits of the investment being considered a goal of their own, not just a beneficial side-effect.