On Dec. 1, a company called ImpactAssets launched two products: the Microfinance Plus Note and the Global Sustainable Agriculture Note. These impact investing notes are “designed to target an interest rate range of 2.75% to 3%,” according to the nonprofit company, are held in brokerage accounts, have a liquidity feature and are available to end investors with a minimum investment of $25,000.
Just another product announcement? Definitely not. These vehicles are only two examples of the flowering of “impact investing” options for end investors, many of whom want their investment dollars to match their personal values while wanting simultaneously to see the value of their investments increase.
“Three-quarters of women and millennials want to invest with their values,” says Fran Seegull of ImpactAssets, which also runs The Giving Fund, a donor-advised fund with 700 clients who have invested an average of $150,000 into the DAF. These two debt offerings, Seegull says, allow ImpactAssets to lend to “regulated emerging market institutions that make micro loans,” in the case of the Microfinance Plus Note, while the Agriculture Note goes directly to support sustainable agriculture cooperatives and other groups identified by ImpactAsset that help small farmers around the world “stabilize their incomes and farm in a productive, sustainable manner.”
Ron Cordes, an ImpactAssets board member and executive co-chairman of Assetmark, said in the release announcing the notes that “our hope is that these notes help unleash the capital needed to effectively address global poverty through support of small growing businesses.”
That’s a very nice goal, you might say, but if you’re like many advisors, you also may be thinking these notes are a little too unorthodox for your investing models and for your clients. You would be wrong.
For one thing, Seegull says these investments are “not philanthropy” but rather “an alternative investment with an impact investing twist.” She also speaks bluntly to advisors who think impact investing and its corollaries — socially responsible investing (SRI), environmental, social and corporate governance (ESG) investing, and faith-based investing — are on the fringe. “The wirehouses are getting into” impact investing in a big way, she reports, while “clients are demanding impact products” and “advisors are losing assets” to the big Wall Street firms.
Joel Hempel, COO of Lockwood Advisors, which offers a range of impact investing options on its SMA platform, says the approach is attractive to “millennials, yes, but also to a broader swath of investors.”
Kim Wright-Violich, managing director and founder of Tideline, points out that impact investing was started by the Quakers, who had “investment policy statements in the 1700s.” Wright-Violich, formerly president of Schwab Charitable, the big donor-advised fund, says that advisors today can help form “stickier clients” and have “a chance with the next generation” of clients by offering impact investing options. “The financial services industry is ripe for disruption” through advisors’ use of impact investing, she says.
Regs, Ratings and Assets
The regulators are acknowledging the importance of values-based investing, as is Morningstar.
In late October, the Labor Department said it is replacing its guidance on socially responsible investing in retirement plans with new guidance that “all other factors being equal, it’s perfectly acceptable for ERISA plan fiduciaries to consider the social impact of their investments,” so long as those investments don’t compromise fiduciary obligations, according to Labor Secretary Tom Perez.
The guidelines replace language issued in 2008 by the Bush administration that “gave cooties to impact investing” and had a chilling effect on economically targeted investing, said Perez.
In September, the IRS announced that foundations’ mission-related investments should not automatically be subject to a tax. The agency said foundation investment managers were not required to select only investments that offer the highest return, lowest risks or greatest liquidity, though they must exercise the ordinary business care and prudence in making investment decisions that support, and do not jeopardize, the furtherance of the private foundation’s charitable purposes.
Wright-Violich said the IRS ruling will likely drive some amount of ESG investing at foundations, saying “those who were concerned about the regs will now have some comfort,” and that “people in this industry like to know where the lanes are.”
Audrey Choi, CEO of the Morgan Stanley Institute for Sustainable Investing, said in October that an analysis of the performance of more than 10,000 mutual funds over a seven-year period found that funds using sustainable strategies performed as well as or better than more traditional funds “more often than not.” Choi said a Morgan Stanley poll of investors showed that millennials are twice as likely as other cohorts to buy sustainable products like mutual funds, and twice as likely to divest of funds when they disagree with company policies.
Morningstar announced in August that by early 2016 it will add ESG scores to its mutual fund ratings through its different products, using company ratings from Sustainalytics. “We want to bring even greater transparency and accountability to the investment industry with ESG research, data and tools, while helping investors put their money to work in ways that are meaningful to them,” said Jon Hale, Morningstar’s director of manager research for North America.
Finally, the US SIF Foundation counted $6.57 trillion invested in some form of values-based investing at the beginning of 2014. Of that total, the Foundation counted $4.3 trillion in net assets in 925 investment funds — including mutual funds, VAs and ETFs, but not counting separate accounts or community investing institutions.
The Advisor Disconnect
Those are big numbers and potentially big moves, but still not convinced of the value of values investing? For advisors, the biggest numbers may be in what Joe Keefe points out is a “disconnect between demand and supply” when it comes to impact investing, or ESG investing as he prefers to call the strategy.
Do all the different names and strategies for values investing create confusion among investors and advisors (and those who write about it)? Keefe says, “There was some confusion about language, but that linguistic confusion is resolving itself.”
Wright-Violich of Tideline admits that the “industry is so nascent; the nomenclature is not standardized,” but the interest “across the client base,” and in particular “the next generation of advisors” and clients, hasn’t hurt the growth of values investing assets among institutions and individuals.
“It’s appealing to both liberals and conservatives,” she says.
In its 10th annual “U.S. Sustainable, Responsible and Impact Investing Trends” report, the US SIF Foundation addresses the possible confusion head on. “While the variety of labels can sometimes be confusing, the core message is clear. A growing number of investors, institutions and financial professionals are deploying and managing capital to build a more sustainable and equitable economy,” the foundation wrote in its report.
Whatever you call it, advisors are behind the curve in offering values investing to clients, Keefe says, which he believes is an efficient but underused way for advisors to “attract and retain clients.” Keefe, president and CEO of Pax World Investments, cites two survey findings that show how advisors are not on the same page as their clients when it comes to investing with their values (see charts, below).
What Is Impact Investing?
“Running screens” on potential investments is “not the same as impact investing,” says Wright-Violich; rather impact investing asks “how do you drive a positive impact” on social, environmental and other values with your investments. Her colleague, Tideline Director Monique Aiken, says “socially responsible investing assuages your guilt — you didn’t do anything bad with your money — while impact investing is about intentionality.”
In other words, it’s not what you screen out, like weapons, tobacco or pornography; impact investing seeks to include companies acting in a way that supports values and causes that the manager (or investor) wants to encourage, which can be a wide universe that encompasses the interests of a broad spectrum of social, environmental and religious values. ImpactAssets’ Notes are a good example of impact investing in that light. Or as Keefe puts it, “now we define ourselves by what we do invest in” rather than what we won’t.
Keefe recalls that when Pax World launched the first SRI fund with $101,000 in 1971 (now called the Pax World Balanced Fund, with $1.8 billion in assets as of Sept. 30, 2015), it was controversial among money managers.
“When we started the fund in 1971, we screened out” companies, Keefe says, and were “met with skepticism: ‘Why shrink the opportunity set for a non-financial reason?’”
At Tideline, Wright-Violich says, “we hope to add to the professionalism of the space” by offering practical consulting help to asset management firms, broker-dealers and individual advisors who want to build their own impact investing offerings for end clients. To succeed in the impact investing space, already “the big firms know they need more than one product” on their platforms. There’s a need for that consulting help especially for advisors, she says, who traditionally “have underplayed their philanthropic services” but need to figure out how to get paid for those services. “You can’t do this for free,” Wright-Violich says. “You have to build scale.”
Companies that provide outsourced investment management for advisors are aware of the need and are providing solutions. Joel Hempel has been with Lockwood Advisors, the SMA arm of Pershing, since 1996, and says his goal has always been to give advisors the products and support to better compete. That’s one reason why Lockwood has “five ESG managers” on its platform, to help advisors deliver “holistic wealth management” by focusing on tax-aware investing but also to meet clients’ values investing needs.
Envestnet began its Impact Investing Solutions (IIS) program in 2008 through a partnership with Veris Wealth Partners and has seen consistent, high growth in its assets in IIS. One of the many SMA strategies available on its platform is Dana Investment Advisors’ Socially Responsible Equity strategy, managed by Duane Roberts. That SMA strategy won the inaugural Impact Award as part of Investment Advisor and Envestnet’s 10th annual SMA Managers of the Year program. At the time, we lauded Roberts and his team for running a strategy that “debunks the myth that impact managers may sacrifice return for investing in a good cause. Their strategy incorporates best of class environmental, social and governance impact criteria, and has a 15-year track record of consistent, superior investment performance.”
Keefe of Pax World says that interest in impact investing and the growth of assets “from all channels” has developed more quickly over the past 18 months than over the past 18 years.
The Driving Factors
Two big factors are driving that growth in interest and real assets, Keefe says: data and demographics.
Increasingly, good research has shown that ESG “has materiality” in investing, and “the old canard that you had to sacrifice returns” for values investing is no longer heard. “ESG delivers alpha and manages risk,” he says, and fits into a broader investing trend: “The world was already headed toward factor investing.”
The research includes data that more diversity in a company’s leadership provides better returns. That prompted the launch of the Pax Global Women’s Leadership Index, which identifies companies around the world that “demonstrate a commitment to advancing women through gender diversity on their boards, in executive management and through other policies and programs.” Those companies have to meet ESG standards as well.
Keefe’s point is that the data on ESG or gender equality shows “there’s a business reason to do this” type of investing. Yes, Pax World, which gets 96% of its assets from advisors, also “looks at traditional metrics, like P/E ratios” in building its funds and separate accounts, but adds other metrics, such as a company’s emissions footprint and the diversity of its workforce.
Since the financial crisis, Keefe says “risk is a bigger part of the conversation than returns” for clients and advisors. That’s “another selling point for ESG; we’re focused on risk, on downside capture” since “ESG is another portal into a company’s risk profile.” The data also suggest that just as more diverse boards produce better returns at companies, “at some point, you have to look at non-diverse boards as a risk factor” since they “might have a higher cost of capital.” In the end, the ESG data shows that it’s “all about materiality,” Keefe says, and that sometimes “the right thing to do is also the smart thing to do.”
As for demographics, “women and millennials are more interested” in values investing, and institutions have long been more invested in values investing than individuals. One example of the changing proclivity is a survey from Spectrem Research released in May 2015 that found more than one-quarter of investors under the age of 45 allocate at least 25% of their investable assets to socially responsible companies. Twenty-one percent of female investors do the same, the Spectrem research found.
As for older investors, Keefe recalls that “people our age were taught that you make money here and then spend it there” to fund institutions that matched the client’s values through philanthropy, for instance. But younger investors, he suggests, want to achieve both social good and good returns at the same time.
As values investing has grown in assets and industry acceptance, there’s been another big change, Keefe says, as shown in the leadership of the Forum for Socially Responsible Investing. Keefe, who served on the board of the Forum back when it was called the Social Investment Forum (the name change took place in 2011), says, “It used to be that there was a strong inside baseball approach to values investing conversations at SIF. We were just talking to each other.”
Now, in addition to traditional values-based asset management firms and foundations, there are members from institutional investors like New Amsterdam Capital Management, the founder of Breckinridge Capital Advisors, the COO of the Morgan Stanley Global Sustainable Finance group and the global head of sustainable business and finance for Bloomberg. The Forum’s institutional membership roll includes three of the four wirehouses.
— Read “Pension Advisors, Be Careful With ESG Investing” on ThinkAdvisor.