Impact investing is concentrated in private markets for good reason. In one word: influence. Investors in private companies and real assets have a lot of it. Investors in public companies and debt instruments have very little, or at least considerably less.
Impact investing is about drawing a direct line from an investment to a documented social or environmental outcome. Private deals include fewer investors with a larger stake in the underlying asset. Their capital is more critical to a recipient's growth and they often have some control over management. Simply put, it is easier to assign credit or lay blame.
In public markets, the influence of any one investor is limited. While there is no shortage of good intentions, the challenge arises connecting a smaller slice of ownership to explicit social or environmental performance, particularly when non-financial outcomes data is sorely lacking.
It would be a mistake, however, to presume that impact investing is impossible in public markets, or to fail to acknowledge the rapid development of public markets strategies pushing the boundaries.
Fund managers commended for their work making socially- and environmentally-driven equity investments include Parnassus, Domini, Neuberger Berman, PAX World, Portfolio 21, Appleseed, Boston Common, Trillium, and Calvert. And the fact sustainability makes good business sense has driven market-wide innovations like Bloomberg's move in 2009 to add corporate environmental, social, and governance (ESG) data to its terminals.
In practice, the public markets strategy that connects ownership to impact most closely is shareholder advocacy. Active owners have succeeded in persuading companies to better disclose climate risks, address poor labor and human rights conditions in global supply chains, and promote gender and racial diversity among other forward-thinking reforms, says US SIF: The Forum for Sustainable and Responsible Investment.
PGGM, a Dutch pension fund with €125 billion (U.S. $155 billion) and roots in the healthcare and social work sectors, provides a compelling example of cutting edge methods.
- The portfolio is highly concentrated, comprising just 15-20 companies. This ensures PGGM is one of the largest 20 investors in the company, with direct access to management;
- Consistent with a long-term focus, PGGM locks in its holdings for at least three years to allow the company to make mistakes without fear of repercussion;
- PGGM only invests when management is accessible from the outset to supplement intense scrutiny of ESG metrics, including the transparency of financial data.
PGGM's responsible equity portfolio is unlikely to qualify as an impact investment. However PGGM should certainly be considered an exceptional practitioner of "investing with impact", as strategies that border on impact investing have come to be known.
In addition to shareholder engagement, investing with impact includes thematic ESG screening in equity markets for issues like alternative energy or workplace practices, and a surprisingly diverse range of community development and environmentally-oriented bonds and notes.
Another approach to keep an eye on is place-based equity investing. If investors care to support targeted job creation, it may be possible to tilt portfolios to locally-headquartered companies. Public companies have a significantly larger portion of facilities in their home states than in other places. By way of example, 21 percent of the total facilities of companies headquartered in California are located in California, versus 3 percent of facilities based in California for companies headquartered elsewhere. Importantly, the availability of workforce data makes it possible to track the high-level employment characteristics of public company investments.
This geographic focus is part of the approach being considered by the United Way of the Bay Area (UWBA), a community-based organization aiming to cut San Francisco Bay Area poverty in half by 2020.
Lauryn Agnew, chairman of the UWBA investment committee, has been leading the initiative and researching the financial and fiduciary consequences of localizing $2 million of equity investments in UWBA's endowment fund. Drawing on the Bloomberg Bay Area Index (BBACAX), UWBA's model portfolio of companies headquartered in the San Francisco region differs somewhat from the S&P 500 (Bay Area companies are a little smaller on average and more heavily weighted to the IT, financial, utilities, and healthcare sectors), but has produced a better financial return in the last five years, with only slightly more risk.
The BBACAX acts as a proxy for job creation and employment for UWBA. Further refinements, such as optimization to the Russell 3000 and additional ESG screens, are being examined to align the investment with UWBA's poverty alleviation mission.
Place-based equity investing may not be suitable for all or even most investors. But it points to the way public markets might be used as a compliment to the core of impact investing in private companies and other unlisted assets.
This multi-pronged approach is the subject of a new Tellus Institute report on "total portfolio activation". As Joshua Humphreys, a co-author, concluded at a briefing last week in San Francisco: "This is about how you intentionally increase the potential for impact [across all investments]".