The recent evolution of impact investing – which has the dual objectives of achieving positive social and environmental outcomes as well as good financial performance – offers an opportunity to combine successful allocation of capital and strong investment returns, so delivering a more sustainable future for all.
Traditionally, impact investing was confined to the private market, with initiatives, such as the Ford Foundation’s Program Related Investments in the 1960s, often investing directly in targeted projects in local communities. More recently, it has broadened out and is being adopted by investors in the public market. The Dutch pension manager PGGM, for example, has committed to investing at least €20 billion into companies that have a positive impact on areas such as the climate, environment, water, food and health.
The World Bank estimated in 2016 that the total market capitalisation of listed companies was US$65 trillion. The sheer size of that number underlines the extent to which public equity markets offer a large and liquid universe in which to find impact investment opportunities. That is not to say that all listed companies are suitable bedfellows for impact investors. However, many do have the potential to make significant inroads into addressing some of the issues that are of global impact – companies such as the electric vehicle manufacturer, Tesla, which is driving the adoption of eco-friendly cars that will have a more favourable impact on the environment than traditional combustion engines. Another is Safaricom, a telecoms operator that is bringing mobile banking to the masses across Africa with the stated aim of transforming lives. By investing in the public equity market, investors are increasing the amount of capital that is being funnelled into meeting social and environmental challenges. But it is not as simple as finding the ‘right’ companies to invest in.
Those who trade regularly in and out of companies in their portfolio have little claim to making an impact through their investments. It takes the patient mind-set and the capital of the long-term equity investor to give companies the freedom and focus they need to deliver on their long-term growth plans and ambitions.
There is a big gap to plug in financing sustainable development. The Brookings Institution – an influential American research group – has estimated that between US$5 trillion and $7 trillion of investments are required annually to finance the United Nations Sustainable Development Goals – a set of 17 objectives covering a range of social and economic development issues including issues such as poverty, hunger, health, education and climate change.
As allocators of capital, the managers of Baillie Gifford’s Positive Change strategy have a role to play. We believe that we can contribute to a more sustainable future by directing capital to those companies that are addressing the challenges our world is facing. We have a responsibility and the ability to contribute to global progress. It is also important that the strategy progresses – in this regard, 2017 was a year of positive change for us.
At the core of our philosophy is a belief that delivering impact and investment returns can be complementary. This is why we have our two explicit objectives – to deliver attractive investment returns and to deliver a positive societal impact. As such, we think about impact throughout our investment process, from the moment we embark on our analysis of a company (the first question we ask ourselves is ‘What societal challenge is the company tackling?’) to when we decide what holding size to take and in our ongoing engagement with management teams. At the beginning of the year there was some mild discontent with our status quo – it was difficult to make comparisons between different companies and their potential to deliver impact, particularly given that we consider positive change in its broadest sense across our four investment themes (Social Inclusion & Education, Environment & Resource Needs, Healthcare & Quality of Life and Base of the Pyramid). We asked ourselves how we could address this and explored the idea of writing a separate report focused on impact, in isolation of the investment case. We experimented with these reports and initially the investment managers wrote them in addition to the investment report. However, we soon realised that this could lead to bias, so changed tack and asked the two ESG specialists in the Positive Change team to step in. Our investment process now incorporates this second analytical report, carried out by our ESG specialists using the framework they have developed to assess three key factors: intent, product impact and business practices. This development in our process has added rigour to our analysis and brought more independence and consistency to how we think about impact: progress.
Analysing the social and environmental impact of listed companies is a challenge. But it is necessary if impact investing in listed equities is to be seen as a credible and socially acceptable way of allocating capital. Although there are many companies providing data on economic, social and governance (ESG) issues, they capture only part of the picture, especially when it comes to assessing more nuanced areas such as corporate culture and management intent. Reporting companies’ impact is also difficult: not all impacts can be quantified and even those that can be are not always disclosed.
For this reason, the Positive Change strategy uses in-house fundamental research to examine a company’s impact on society, focusing on both quantitative and qualitative aspects. Before making an investment, we conduct an impact analysis which looks at management intent, product impact and business practices. Doing this helps to build a fuller picture of a company’s ability to deliver on the dual objectives of achieving positive social and environmental outcomes as well as strong financial performance. Likewise, having a long-term investment horizon builds rapport with management teams over time, making it easier for us to engage with them on matters such as impact and disclosures.
Impact investing in listed equities is a new and exciting area for those wishing to contribute their capital to shape a better world. Although there are many challenges ahead for this sector of the market, not least measuring impacts, the long-term benefits for companies, investors and society could be significant.
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The views expressed in this article are those of Lee Qian and should not be considered as advice or a recommendation to buy, sell or hold a particular investment. They reflect personal opinion and should not be taken as statements of fact nor should any reliance be placed on them when making investment decisions.
This communication was produced and approved in April 2018 and has not been updated subsequently. It represents views held at the time of writing and may not reflect current thinking.
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