Co-authored with Cathy Clark of Duke University.
Demand for impact investing is surging - yet investors, even interested ones, have a hard time wrapping their heads around the practice.
Surveys conducted for a recent Barclays study found that more than half of respondents expressed interest in such investments, yet fewer than one in 10 (9 percent) had actively engaged. According to Barclays' Greg Davies, "We believe the explanation for this gap is straightforward: people may want to use their investment for social good, but they don't know how to."
Getting started in impact investing can be difficult enough - first, investors need to figure out whether capital market strategies are even appropriate for achieving a social objective of interest, like alleviating homelessness, biodiversity, or girl's education in developing countries. And then there's the work of matching an investor's financial and social preferences to the universe of available products, cobbling together limited information on context, purpose, and performance.
But even more troubling is the perceived lack of clarity about the impact envisioned or delivered by these investments. Without a clear understanding of what differentiates an impact investment from any other investment, new entrants fear an effort at "greenwashing" - repackaging the same old, non-impact strategies - or an attempt to camouflage deficient investment skills.
Luckily, we know from recent research that impact investing is not, in fact, camouflaging deficient skills. But when we define impact investing by its financial return alone, we risk burying the lead: the fact impact investing generates real, measurable, social outcomes. Impact of some variety is what investors want in impact investing - yet it is both the field's raison d'être, and its Achilles heel.
With few consistent guideposts, the work of assembling scattered information in order to bring impact into the investment equation is a real psychological and practical barrier. There is also a scarcity of tools for benchmarking performance, analyzing risk, and constructing portfolios around impact.
This is what prompted Omidyar Network to support, and Tideline to launch, the Navigating Impact Investing Project, a six-month process of deeply engaging with practitioners on the question of developing better frameworks for matching investor preferences with investment opportunities across all three legs of the impact investment stool: risk, return and impact.
Beyond the binary
It does not help that impact investing is still widely perceived as a binary proposition: either "impact-first" (i.e., social outcomes seeking, with a willingness to concede financial returns); or "financial-first" (i.e., uncompromisingly returns-seeking, with a lesser interest in positive social outcomes as the icing on the cake).
Indeed, this polarization has been difficult to shake. For example, take the publication in recent months of two separate, rigorous performance reports showing that private equity impact investing funds targeting market rates of return have delivered results on par with comparable traditional investments, from the Wharton Social Impact Initiative and a collaboration between Cambridge Associates and the Global Impact Investing Network.
While the research has been rightly celebrated for disproving the supposed inevitability of the trade-offs between financial return and impact, it may unintentionally reinforce three problematic misconceptions:
- First, that all impact investments that deliver a market rate of return are created equal, so much so that the impact preferences of investors are irrelevant to evaluating performance. In fact, every fund delivers a very different type and degree of impact, consistent with its unique investment approach, and investors often choose funds based on this "investment thesis of change."
The need for a more nuanced approach was recognized recently by US Secretary of Labor Thomas Perez in announcing new guidance related to economically targeted investment by fiduciaries, who noted: "We don't have to choose between shareholder returns on the one hand and, for example, safe workplaces or fair pay or equal rights on the other hand. There's a growing national conversation... that rejects the zero-sum game in favor of a win-win mindset, embracing the idea that these goals are complementary and not at cross-purposes."
Getting to Clarity
The Wharton and Cambridge Associates/GIIN initiatives are potentially catalytic developments in the growth of impact investing. However, they also serve as a reminder of how badly we need new tools to navigate the full spectrum of impact investments.
As is, our conversations continue to focus on the information we have and can easily parse - financial returns - rather than the information we don't have, and need, related to profiles, patterns, and the risks of achieving impact. What kinds of impacts do impact investments aim to achieve? Where are the intersections of impact, return, and risk that can be recognized and repeated?
One approach to helping investors gain more clarity may be to establish "impact classes," in the same way asset classes recognize patterns based on the financial characteristics of an investment. Is an investment seeking to pioneer or scale a new, entrepreneurial approach to solving a social problem, for a particular group of beneficiaries? Is it seeking to impact natural ecosystems? Or is it supporting business approaches that intentionally empower workers or focus on targeted hiring?
This is not about positioning impact investing as an asset class in its own right. That debate has been settled: impact investing is a lens across asset classes. Rather, it's about defining a bounded set of impact classes clustered by the type of impact they seek, the means by which that impact is achieved, common approaches to evaluating and communicating performance (even if the precise performance metrics differ), and risks to the achievement of the social outcomes being targeted, among other criteria.
The effort to segment and simplify impact investing is not new. This recent presentation to leading practitioners at the SOCAP15 conference highlights earlier, foundational efforts.
What is new is a heightened sense of the acute need for moving beyond the binary to a more unified understanding of impact investing.
As more investors enter the market, they are demanding the simple frameworks and tools that make the process of identifying, evaluating, and executing on the impact of impact investments more intuitive. The field is being challenged to respond in turn, building on the experiences of early pioneers and taking full advantage of the growing demand and immense potential of putting capital markets to work truly solving our global challenges.