Home' Superfunds : Superfunds August 2018 Contents Every investment has a material impact—whether positive or
negative, intentional or accidental—on the financial return
for the investor. For too long many investors have either
ignored these impacts, or used blunt tools, like sector exclusions,
to focus on minimising negative impacts. However, they now have
the opportunity to build portfolios that optimise for positive total
FROM IMPACT INVESTING TO TOTAL PORTFOLIO IMPACT
It was a little over a decade ago that the term ‘impact investing’ was coined.
The common language helped coalesce an existing group of investors who
sought to generate both a financial return and a social and/or environmental
return. Since then, innovative asset managers have demonstrated that it is
possible to generate positive outcomes for people or the planet while also
delivering market level financial returns across a range of asset classes.
The potential for pension funds and other asset owners to have a positive
impact in the world is much greater than is possible through labelled impact
funds alone. This is because, whether conscious or not, every investment
an asset owner makes generates a mix of positive and negative outcomes
for people and the planet. Just as asset owners seek to optimise across risk
and return when making an investment, they should also be adding a third
consideration of impact. With long-term obligations comes a responsibility
not only to generate long-term financial returns, but also to ensure that
beneficiaries can ultimately enjoy those returns in a sustainable world.
OUTCOMES FROM ACROSS THE PORTFOLIO
To start assessing total portfolio impact, asset owners need to understand the
way that each investment strategy considers the impact it has on people and
the planet (if at all). This bottom-up approach helps get at the intentionality
of each strategy and identify opportunities to swap in strategies that generate
more significant positive outcomes with similar risk and return characteristics.
We believe there are four main ways that an investor can integrate material
environmental, social and governance (ESG) factors into an investment
process, each of which has different associated outcomes – Avoid, Assess,
Amplify or Aim for Impact.
Avoid involves screening out sectors like tobacco, and thereby seeks to
reduce negative outcomes for people or the planet. Exclusions work well for
activities which are clearly negative but are less effective where engagement
might drive transformative improvements in business activities.
Assess involves trying to price the risk and opportunity from ESG factors
at the security level, for example demanding a significant discount for the
bonds of a sovereign with concerns around corruption or lack of voice
and accountability. In so doing the investor will be associated with both
positive and negative outcomes, but they are at least consciously seeking to
be compensated for the potential financial implications of those negative
outcomes. If capital markets work effectively, over the long term the cost of
capital will fall for issuers associated with positive outcomes, while rising for
those associated with negative outcomes.
The last two approaches to integration are taken by investors who are
actively seeking positive outcomes – either Amplifying the best-in-class
issuers by overweighting them within a sector or Aiming for Impact by only
investing in issuers whose products and services have inherently positive
outcomes for people or the planet. The difference between these two
approaches is important – a plastic manufacturer’s products may not be
inherently positive for people or the planet, but as a best-in-class company
they may have committed to reducing their greenhouse gas emissions based
on science-based targets. In contrast, a company which produces essential
pharmaceuticals for life-threatening diseases and prices their products to
ensure broad access, will see its revenues grow in lock-step with positive
outcomes from its products.
Once an asset owner has mapped each investment strategy to one of these
integration approaches, they can start to adjust the portfolio composition
to optimise for risk and impact-adjusted returns. They can expect a greater
contribution to positive outcomes from asset classes like private equity or
Superfunds August 2018
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