Want to invest AND do good with your money?
Ever thought, “I wish I could invest my money in things that I actually care about?”
The definition of Impact Investing developed by the Global Impact Investing Network (GIIN), the leading association to all things impact investing, says,
“Impact investments are investments made into companies, organizations, and funds with the intention to generate measurable social and environmental impact alongside financial return.”
There are several terms and acronyms to describe this type of investing that you may have heard of. Overall, this type of investing can be described by three categories. The three letters ‘ESG’ describe the three general categories; E for Environmental, S for Social and, G for Governance. Different investment vehicles exist to cover one of these specific categories, or even more than one. One could find solely “environmentally focused funds, or solely “socially conscious” funds,” or a fund that covers multiple categories.
Other terms you may also see to describe forms of Impact Investing are; ESG investing, SRI (Socially Responsible Investing), Venture Philanthropy, or others. People often refer to this type of investing with interchangeable terms, but with implied differences. We don’t quite yet have a standard by which all types of ESG investing are referred to, and until that happens, we’ll have to do our best to truly determine the nature of a specific type of ESG investing.
ESG Investing typically refers to the categories of investments, and each specific type has its own term (SRI, Impact, Venture Philanthropy). For clarity purposes, I will use ESG Investing and Impact Investing interchangeably, although notable differences do exist.
In a nutshell, ESG investing is the belief that one should be able to do well with their own money, by doing well for others, or causes they care about.
It has been described as investing with your heart. ESG investing has come a long way, and is no longer viewed as a pie in the sky method.
There is evidence to suggest that with prudence, one may not need to sacrifice performance potential to do ESG investing. There is also growing evidence to show that more and more sectors of the population are looking to do ESG investing, which just means it is becoming more and more popular. It is becoming a growing sector, especially with Millennials. I am a Millennial and am personally and professionally interested & passionate about ESG Investing. This blog will serve as a conduit for more ESG/Impact Investing insight.
An important consideration, along with monetary ROI (return on investment), is social ROI. What type of social or environmental impact might your investment have? There’s definitely more to that.
Morningstar, the world-leader in investment research, recently announced that they are now scoring ESG funds. Morningstar will give each fund a score zero-to-100. The higher the fund’s score, the greater the fund’s perceived ESG impact. Another way of looking at mutual funds, in general, is to view the ESG score reported by Morningstar and get a sense of what the ESG footprint is on any given fund.
As mentioned, there are many different types of ESG investing. This article isn’t meant to be ‘deep dive’ into the ESG investing world, so what follows a high level summary of ESG Investing and sub-categories. My hope is that this will act as a starting point for thinking about this type of investing and help you better understand ESG Investing, but more importantly, understand that this type of investing exists!
In general, it typically helps to think about ESG investing, first through your own personal filter. Are you passionate about anything that you’d like to inquire about investing in? Are you personally opposed to certain industries? Once you’ve applied your personal filter, then it may help to think about ESG investing through two additional filters or methods. We will describe them either as Exclusion or Inclusion.
First I’ll describe exclusion, or ‘negative screening.’ This type of investing can be thought of as screening out the companies or sectors that you don’t agree with. This would be if someone wanted to generally invest, but said, “I don’t want to invest in, for example, tobacco companies, or companies involved in fossil fuel extraction, or military defense production, or companies with poor records of pollution.” This type of investing attempts to exclude industries or companies that may engage in an activity that you personally do not want to be supporting through an investment. This type of investing has generally been a little broader and less specific than inclusion ESG investing.
Exclusion says, “I’m okay investing in most of the other companies and industries represented in different indexes, but I just don’t want THIS.”
SRI or Socially Responsible Investing has historically operated under this exclusion method. One example of exclusion would be specific mutual funds that apply filters, or screens to exclude companies that: – Earn at least 20% of their total business revenue through the production and or sale of military weapons and/or weapons of mass destruction. – Earn at least 15% of their total business revenue through the production and/or sale of tobacco or alcohol products. – Earn at least 20% of their total business revenue from gambling activities. – Engage in certain for profit business activities in or with the Republic of the Sudan. – Have had major recent controversies relating to child labor infractions in the U.S. or abroad. – Earn at least 15% of their total business revenue from the rental, sale, distribution or production of pornographic materials or the ownership of adult entertainment establishments. – Manufacture pharmaceuticals, abortive agents, or contraceptives – Engage in certain for profit business activities in or with the Republic of the Sudan. – Are involved in stem cell research.
Those are all actual negative screen filters for specific types of funds. The funds screen out the companies that engage in any of the activities listed above; a.k.a. Negative Screening or Exclusion.
The other style of filter, or method that I will use to describe ESG investing, we’ll call, Inclusion, (or proactive/positive screening.) This type if investing may also be referred to as, Impact Investing because one would strive to make a proactive impact with their investment, in a particular cause that they are passionate about. There are many different degrees of impact investing, with varying levels of complexities. Generally, impact investing can be described as the type of investing that you would engage in if you were very passionate about a specific cause, idea, or solution, and wanted to invest in a vehicle that attempts to directly impact it.
Often, these types of Inclusion/Impact Investments measure and track the actual impact that they make on their chosen cause.
Here is where people often include the Impact Investment’s social ROI along with it’s actual ROI. Investors think about the social good caused by their investment and weigh that when considering whether or not to invest in a particular investment.
One specific example of impact investing, amongst a very broad category, would be investing in a mutual fund that specifically invests in companies involved in clean energy. This type of “retail” option of investing in a retail mutual fund, can typically be the simplest route. Other, more complex types of impact investing, for example, involve investing in entities that make micro loans to third world entrepreneurs, for example. Also, there are other private equity impact investments that require much more complex structures.
These types of impact investments tend to not be as publicized or generally as popular as the more retail versions. Either way, both of these options, and every option in between that I haven’t mentioned, may provide investors a way to actually put their money behind a very specific cause that they are passionate about. These are all topics that I’ll cover more in the future.
While the types of impact investments vary greatly, below is a brief list of examples of inclusive impact investments from www.impactbase.org:
Sustainable Trade Financing:
– Fund invests in Fair Trade and an organic certified coffee co-op in Ecuador. Coffee sales used to sponsor projects in reforestation, education, or community based clinics. Low-Income Housing: Private equity fund in Brazil, to provide affordable homes for low-income families, particularly families residing in areas affected by natural disasters.
Clean Drinking Water: Fund in India investing in microfinance institutions.
– Invests in companies that set up water purification plants in rural villages. Plants owned by local community.
Clean Energy Access: Private equity fund in Europe that invests in companies that provide clean electricity to rural communities in developing countries.
– Invests in company that provides solar energy for lighting and refrigeration in rural Indian households, schools and hospitals that have limited access to main electricity grid.
In all, Impact Investing, Socially Responsible Investing, and many other types of ESG Investing have come a very long way in even the last 10 years. Many funds now measure and quantify the actual impact that they make on a cause, community, or objective, alongside the fund’s actual rate of return, which investors would also possibly enjoy. If you are interested in doing some kind of ESG Investing, have a conversation with a qualified, fee-only, fiduciary financial advisor. You should find someone to help you clarify your overall investing needs, help clarify any causes that you may want to be involved in, determine if ESG investing makes sense for your specific situation, and how to potentially align a portion of your investments with your personal beliefs.
Here is a short list of resources regarding impact investing, if you’d like to learn more:
– www.thegiin.org – Leading association and information center on impact invest
– www.impactbase.org – Searchable, online database of impact investment funds and products designed for investors
– www.iris.thegiin.org – The catalog of generally-accepted performance metrics
Please note that this is not an endorsement or an explicit recommendation for Impact Investing. Careful consideration should be taken before making any type of investment, including Impact Investments. Consult your financial advisor prior to making any investments.
Also, please note that I don’t recommend you engage in impact investing if you have consumer debt. Pay that off first. Get an emergency fund going. Then look into establishing an investing plan that is suited to your risk tolerance, diversified, properly allocated, and monitored & rebalanced regularly. Generally, impact investing may make sense for a portion of your overall portfolio, not necessarily all of it. For more on building a solid financial house, check out my previous post: 7 Essential Steps to Build Wealth.
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