Maximizing Financial Returns and Social Impact: The Power of Impact Investing

Key Takeaways

• Impact investments seek to maximize financial returns and have a social impact through the judicious placement of capital.

• The approach prioritizes investments in companies creating positive change in the world.

• Other terms of this methodology include socially responsible investing, ethical investing, and sustainable investing.

An investing strategy designed to engender positive social or environmental outcomes is referred to as impact investing. The idea is to do some good in the world while generating financial returns. This can take the form of investments in a number of different asset classes, with a variety of outcomes.

Let’s look at how it is possible to maximize financial returns and social impact through the power of impact investing.

Impact Investing Defined

This approach prioritizes investments in companies creating quantifiable positive change in the world, along with a financial return. Investors interested in pursuing this strategy typically review the environmental, social, and corporate governance (ESG) impact of the company or fund in which they have taken an interest.

A 2021 survey by the Morgan Stanley Institute for Sustainable Investing found that 66% of responding retail investors in the United States are interested in sustainable investing. Moreover, half of those surveyed said they would be willing to sacrifice some financial return for a positive social or environmental impact.

With that said, values differ from person to person. Some investors may choose to be guided by their religious philosophies, while others may be guided by current events. Either way, there are a few opportunities within the category of impact investments.

Other terms of this approach include socially responsible investing, ethical investing, and sustainable investing. Regardless of the way to which it is referred, the aim is the same: employing investment capital to do some good in the world.

Investors seeking such opportunities often use a company’s ESG score to help guide their decisions. Several independent research firms grade investments based upon their ethics. These evaluations can be helpful when creating an impact portfolio focused on a particular ESG category.

Impact Investment Strategies

The most employed impact investment strategy is quite simple: choose investments deemed ethical, while avoiding investments deemed unethical.

This likely raises the question of how such determinations are made.

Some choices are simple, such as choosing to invest in a sustainable energy company over purchasing oil stocks. Other, more complex choices can result from reviewing impact investment funds’ reports on changes implemented as a result of the selections their managers make. Seeking investment opportunities like exchange-traded funds focused on companies with the lowest possible carbon footprint is an example of this approach.

Types of Impact Investments

A broad range of capital and investment vehicles are available in this category. Some investors choose to focus on emerging markets, while others prefer developed markets. Industries with opportunities falling under the heading of impact investments include healthcare, education, clean energy, renewable energy, and agriculture.

Here, it is useful to understand that the ESG concept tends to focus on ways the ethics of an investment can influence its performance. These factors can supplement the traditional means of evaluating an investment in ways that go beyond the common technical evaluations. It is important to note that while social consciousness matters to these investors, financial performance remains one of the criteria by which these investments are judged.

Socially responsible investing (SRI) goes a bit farther in that it entails the active elimination or inclusion of opportunities according to a specific set of ethical standards. These can include environmental stewardship, consumer protection, human rights, and diversity. The ideals sought could be a function of an investor’s religion, personal values, or political beliefs. While ESG analysis can shape valuations, SRI builds upon the ESG factors to pronounce an investment as being positive or negative.

Investing for Social or Environmental Impact

Companies whose values align with those of specific investors are often grouped in mutual funds and ETFs. Funds in these categories tend to center upon faith-based criteria, environmental practices, or human rights. Impact investors also tend to avoid stocks in the “sin” category: gaming, alcohol, tobacco, and weaponry.

Impact investment opportunities also exist in private companies whose missions are social in nature. Investments in nascent companies working in areas such as solar power, carbon sequestration or alternative fuels through venture capital investments or share purchases fall into this category.

Another way to invest for impact is to lend money to nonprofits focused on an investor’s area of concern. Nonprofit loan funds can be a good way to accomplish this, in that they pool investor capital and spread the risk over a diversified portfolio.

Benefits of Impact Investing

Impact investing can be profitable. An Annual Impact Investor Survey conducted by the Global Impact Investing Network found that 68% of respondents had their financial expectations met by such investments in 2020. Another 20% of the people responding said their expectations were exceeded.

Still, it should be noted that impact investing’s returns can be a bit lower than the market average. The University of California conducted a study in which it found a 6.4% median internal rate of return on impact funds, compared to 7.4% achieved by non-impact seeking funds.

However, The Business Research Company’s study of the impact investing market, found the category poised to grow at an annual rate of 18%. An influx of millennial investors is expected to be the catalyst. The same report says the global impact investing market size is expected to grow from $354.41 billion in 2021 to $423.46 billion in 2022, at a compound annual growth rate (CAGR) of 19.5%. Projecting this out, the global impact investing market is expected to reach $502.97 by 2026.

Beyond the financial benefits, there are, of course, the opportunities to advance philosophies that have meaning for an investor such as fair labor practices and environmental stewardship. Impact investing also provides the potential for addressing issues that might suffer from a dearth of philanthropic efforts.

Another benefit of impact investing is the opportunity it presents for portfolio diversification.

Alternative Investments and Portfolio Diversification

Traditional portfolio asset allocation envisages a 60% public stock and 40% fixed income allocation. However, a more balanced 60/20/20 or 50/30/20 split, incorporating impact investing along with alternative assets may make a portfolio less sensitive to public market short-term swings.

Real estate, private equity, venture capital, digital assets, precious metals and collectibles are among the asset classes deemed “alternative investments.” Broadly speaking, such investments tend to be less connected to public equity, and thus offer potential for diversification. Of course, like traditional investments, it is important to remember that alternatives also entail a degree of risk.

In some cases, this risk can be greater than that of traditional investments.

This is why these asset classes were traditionally accessible only to an exclusive base of wealthy individuals and institutional investors buying in at very high minimums — often between $500,000 and $1 million. These people were more capable of weathering losses of that magnitude, should the investments underperform.

However, Yieldstreet has opened a number of carefully curated alternative investment strategies to all investors. While the risk is still there, the company offers help in capitalizing on areas such as real estate, legal finance, art finance and structured notes — as well as a wide range of other unique alternative investments.

Learn more about the ways Yieldstreet can help diversify and grow portfolios.

In Summary

Impact investing holds the potential to deliver favorable returns, while reversing some of the consequences of social and environmental oversights. Through impact investing, it is possible to align investments with personal and philanthropic values while realizing credible financial returns.

All securities involve risk and may result in significant losses. Alternative investments involve specific risks that may be greater than those associated with traditional investments; are not suitable for all clients; and intended for experienced and sophisticated investors who meet specific suitability requirements and are willing to bear the high economic risks of the investment. Investments of this type may engage in speculative investment practices; carry additional risk of loss, including the possibility of partial or total loss of invested capital, due to the nature and volatility of the underlying investments; and are generally considered to be illiquid due to restrictive repurchase procedures. These investments may also involve different regulatory and reporting requirements, complex tax structures, and delays in distributing important tax information.