Climate change, social justice, religious freedom — these topics and more are just some of the issues that freckle the modern age. Investing has been a hot topic for decades (one of the classic investing reads, The Intelligent Investor by Benjamin Graham, was originally published in 1949). So how does the 21st century investor use their capital for good? Through impact investing. Here’s what it means to be an impact investor, how this type of investing differs from others and more.
- Impact investing, or thematic investing, is a way for people to use their capital to evoke positive change in the world.
- Impact investing differs from SRI and ESG investing because it focuses on a specific goal, like tackling climate change or promoting social equity.
- While most impact investors have yet to sell their positions, this growing market is already proving itself to be a savvy technique.
- “Impact alpha” is a concept that refers to making positive impacts a deeply rooted aspect of a company as a way to boost financial return.
- Public has a number of impact-driven investing themes to choose from.
What is impact investing?
Impact investing is oftentimes referred to as thematic investing. Whatever you choose to call it, impact investing means putting your money toward something that can lead to a positive outcome.
In other words, it’s a way to use capital toward building a better world. Money does talk, after all, so this approach makes sense.
In addition to aiming for a valuable return on your investment, you can use impact investing to achieve certain goals in an industry or sector of the economy.
For example, women and non-binary individuals in the workforce (as well as their allies) may be interested in investing in female- or trans-led companies. The goal for this would be to help close the wage and wealth gaps that exist between genders.
Another example lies in the environment. According to scientific consensus, human-induced climate change is ramping up its pace. As a result, sustainability is becoming increasingly relevant. Impact investing oriented toward the environment might avoid companies who practice fracking while focusing on companies interested in renewable energy and green technology.
These are far from the extent of impact investing, but they do help exemplify what it means to invest with a greater goal in mind.
As an investor focused on their impact, you might encounter local initiatives to help marginalized residents of your city, specially tailored index funds that suit the needs of a particular religion and more.
How impact investing differs from ESG and SRI investing
Impact investing isn’t the only type of principle-based investing there is. If you get down to the nitty gritty of it, you’ll find that there are two other types of investing that fall in this category: ESG and SRI.
Here’s a rundown of each:
- ESG stands for environment, social and governance. ESG investing prioritizes profit, but does so through the lens of a company’s practices in these three categories. ESG rating agencies provide companies with an ESG score, which can be high (meaning likely to profit) or low (meaning unlikely to profit).
ESG scores rely on environmental factors like the amount of energy they consume, how much waste they produce, whether or not they maintain animal welfare and more. They also consider social nuances like whether or not a company is transparent with their employees’ health and safety, how they’re engaged in the community, if they use forced labor and more. As for governance factors, an ESG score considers how much executives are paid, the level of rights that shareholders maintain and more.
- SRI stands for socially responsible investing. SRI investing is basically a level up from ESG investing. Here, communal concerns are the top priority.
However, one person’s ethical standard may not line up exactly with their neighbor’s. With this in mind, we know that socially responsible investing is totally unique to the person actually doing the investing.
So that’s the difference at its core. ESG criteria puts profit first and SRI focuses on the individual investor’s ethics. Meanwhile, impact investing makes the achievement of a future goal the main priority, and portfolio performance comes second.
Fortunately for impact investors, emerging research suggests that you can have your cake and eat it, too.
Research shows you don’t have to sacrifice principles for portfolio performance
As hard as it may be to believe, letting your principles guide you — strategically, of course — can lead to a return that’s just as lucrative as any ol’ investing technique.
With all this in mind, it’s important to remember that financial return is only one kind of return. There are others (like a world that’s more equitable and sustainable than it was before) that impact investors take into consideration.
Rachel Browning is an impact investment consultant for Denmark-based company Simple. Browning says impact investing lives in the space between traditional investing and traditional philanthropy. This looks like:
Traditional investing → Impact investing ← Traditional philanthropy
Modern Portfolio Theory (MPT) suggests there is always a trade-off between risk and return, regardless of your focus. In an interview with Forbes, Browning says, “Only a handful of impact-focused funds have exited their investments, making it difficult to model the return landscape of such investments.
However, Harvard Business School professionals determined that when impact serves as an integral part of a company instead of an afterthought that negatively affects returns, it actually adds value to your portfolio and boosts performance. Experts call this concept “impact alpha”.
Many people choose to focus on impact investing in a portion of their portfolio while sticking to traditionally diversified indices for the rest of it. This technique is a good way to learn the ins of impact before fully committing.
Examples of impact investing in action
We’re not recommending specific investments, but we do want to help you see what real impact-driven funds and stocks look like in the wild.
The Pax Ellevate Global Women’s Leadership Fund (PXWEX) is a mutual fund focused on women-led organizations.
Institutional investors can use the Reinvestment Fund to direct their capital toward positive community changes. The Philadelphia-based fund goes well beyond its region, and offers a diversified portfolio led by values (like job equity and affordable housing).
Public has investing themes you can browse on the web or app, some of which are impactful by nature. They include a collection of stocks that adhere to an overarching value. Here are a handful:
US SIF (The Forum for Sustainable and Responsible Investment) released interesting research about impact-driven investing. In 2018 alone, impact investing made up $12 trillion of the American market. This equates to more than a quarter of all US investment capital for the year. Their research also showed that larger funds performed best, which comes as no surprise. Now that you know what it means to dabble in impact investing, you can look around for a portfolio addition that can help make the changes you want to see in the world.