Impact Investing: What is it and why it is essential?

Impact Investing: What is it and why it is essential?
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With the start of COP 27 on the 6th of November, our Lambeth Net Zero Demo Day taking place on the 10th of November and our on-going projects in the UK and Africa, it feels like the right time to discuss the importance of impact investing for experienced and new investors. Officially coined in 2007, the term Impact Investing denotes the intention to invest financial capital in return for generating positive change in the world’s most pressing social and environmental issues. Once a smaller and niche investment sector, it has seen year on year growth, with a 2022 survey conducted amongst 1200 investors finding that 66% of millennial investors see greater potential in impact investing compared to traditional philanthropy.

The Global Impact Investing Network published a ‘Core Characteristics of Impact Investing report’ in 2019 and outlined the following, as the baseline tenets of impact investing:

  • INTENTIONALITY - An investor’s intention to have a positive social or environmental impact through investments is essential to impact investing.
  • INVESTMENT WITH RETURN EXPECTATIONS - Impact investments are expected to generate a financial return on capital or, at minimum, a return of capital.
  • RANGE OF RETURN EXPECTATIONS AND ASSET CLASSES - Impact investments target financial returns that range from below market (sometimes called concessionary) to risk-adjusted market rate, and can be made across asset classes, including but not limited to cash equivalents, fixed income, venture capital, and private equity.
  • IMPACT MEASUREMENT - A hallmark of impact investing is the commitment of the investor to measure and report the social and environmental performance and progress of underlying investments, ensuring transparency and accountability while informing the practice of impact investing and building the field.

Impact Investing’s growing trend means that it is becoming increasingly accessible to those wanting to align their personal values with stable financial returns. Its mainstream emergence means that it has the potential to shape a sizeable portion of investment portfolios, especially amongst younger investors in the millennial and below generations.

With the UN recognising the role of impact investing as good practice in effectively addressing the Sustainable Development Goals, it has the potential to help in eradicating poverty, developing food security as well as other global challenges. A 2014 report by the UN identified a $2.4 trillion gap in funding needed in developing countries to effectively address sustainable development. Through the private sector this can be readdressed.

For those in the UK, it also offers great tax relief opportunities to investors. Social Investment Tax Relief (SITR) offers tax breaks to those backing social enterprises, charities and community organisations. It was initially introduced by the UK government in 2014 to encourage investment in the social impact sector to help scale these organisations and deliver maximum effect. It offers a 30% tax relief for those looking to invest and allows a maximum investment of up to £1 million. It allows the organisation to avoid high interest rates and also establish sustainable growth to ensure they deliver on their goals.

Within the UK, the need to eradicate the poverty gap is ever-present and it was estimated by EY that currently £58 billion is flowing into the impact sector. This figure is set to grow year on year judging by current growth rates and could be the key in addressing social and environmental inequalities across the nation.

Though it is notable to consider the current challenges present in impact investing. The sophistication of measurement and management tools remain to be the area that needs greater attention. It remains difficult to measure also in part due to the largely undefined nature of impact. A subjective term that has yet to establish parameters, EY found that there is a difference between impact investments and impact-aligned investments.

Despite the growing trend and awareness in mainstream media, it still remains less than 25% of an investors portfolio. This is due to the lack of knowledge and hesitation to participate. It has been identified that as an emerging and growing sector, the number of specialised and experienced investment professionals such as investors and consultants must improve immediately. This has a direct impact on the rate at which impact investments can grow year on year.

However, it is evident that impact investing is a step in the right direction and should be effectively adopted as a force for good in tackling the societal challenges faced across the globe today.

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