What is impact investing?
26 June, 2022
Sponsored by Circa5000
Want to put your money to good causes? But not sure where to start? Then maybe you should consider impact investing!
How does impact investing work?
Impact investing, as the name implies, is investing with the intention of having a positive impact on communities and/or the planet.
With this type of investing, you put your money towards projects or companies that intend to have a measurable social or environmental impact - while also generating a financial return.
Impact investing is growing in popularity
Investor sentiment is shifting. More people are conscious of the environmental and social impact of their investments, particularly Millennials, Gen Z, and women. This puts pressure on providers to be more transparent about what their portfolios are invested in.
And what are some examples of impact investing?
Your money might be invested in:
Green bonds, a type of fixed-income financial instrument that pools your money towards projects that aim to have a positive impact on the environment or combat climate change.
Companies that provide digital learning technology to improve access to and the quality of education around the world.
Research for rare diseases with limited treatment options, or funding to help pay for the cost of medical bills for people who can’t afford treatment.
Clean energy, to reduce global CO2 emissions and our reliance on fossil fuels.
Sustainable food, to ensure nutritious food is affordable as the world's population increases.
Clean water, at a time when millions of people across the world still don't have access to it.
Impact investing can focus on human development, the environment, or a combination.
With impact investing, you can pick portfolios that align with your goals and priorities. A Circa5000 Stocks and Shares ISA enables you to build a customised portfolio that invests in a mixture of the above, or focuses on one or two sectors.
How does impact investing differ from ethical investing, socially responsible investing and ESG?
You might be confused by these terms and how to distinguish them from one another. The financial industry has an annoying habit of using them interchangeably - but there are some key differences you need to be aware of.
Here's a breakdown:
Impact investing v ESG
Impact investing often gets lumped under this vast umbrella term known as ESG, which stands for Environmental, Social and Governance. ESG is a much broader term which can also include ethical investing or socially responsible investing, which are not the same as impact investing!
What is ESG?
Basically, ESG refers to the inputs that make up a fund manager's analysis in order to determine whether a fund or company can be classified as a sustainable investment. It also considers the impact of the commercial activities of the company and/or its suppliers on the environment and society, as well as the company's corporate governance (the rules, practices and processes by which a company is governed)
Investors can use ESG criteria to screen companies on everything from their greenhouse emissions to the conduct of their CEOs and the working conditions of employees.
Why ESG can be a confusing term for investors
The MSCI Global ESG Index is designed to help investors exclude companies that fail to comply with ESG principles. For example, companies that are associated with nuclear weapons or do not comply with the United Nations' Global Compact (UNGC) principles should not appear in this index. But did you know that the index also includes the likes of Chevron and ExxonMobil - companies that you wouldn't normally expect to be ESG compliant.
Impact investing v ethical investing
The key difference between impact investing and ethical investing is that the former is about putting your money towards projects or companies that intend to have a positive impact on people, planet, or a combination of both. Ethical investing, however, is about avoiding certain sectors or companies that conflict with your values. So, for example, if you're opening a private pension and what your money to have a positive impact on the planet and/or people, you might want to avoid choosing funds that invest in fossil fuels or gambling.
Impact investing v socially responsible investing
‘Socially responsible’ is just another term used to describe ethical investing, so these terms differ for the same reasons as what we’ve outlined in the previous paragraph.
And what about the returns? Are impact investments better or worse?
This is a difficult question to answer. The 56 sustainable funds monitored by Morningstar, an independent research group, performed better than non-sustainable funds 73% of the time over 3 years. However, in 2022, only 34% of sustainable funds did better. As always, past performance is not an indicator of future performance. However, in general, medium- and high-risk portfolios tend to produce better returns over longer time periods (5 years+) than low-risk portfolios or cash.
It's about time in, not timing
A Barclays Guilt Study in 2019 found that stocks and shares outperformed cash 90% of the time between 1899 and 2018. And while impact funds are still a relatively kid in town, remember that these are designed to have a positive impact WHILE generating a long-term financial return.
And here are four final tips to check whether your investments are having a positive impact:
1 - Use an impact calculator.
Various investment managers allow you to measure the impact of your money in different areas, such as sustainable development or medical treatment. For example, £1,000 of your money may have contributed to xx of renewable energy and a reduction of xx in CO2 emissions.
2 - Look at fund reports
These are handy if you want to learn more about how your money is invested and get a breakdown of each sector and projects the fund is contributing to.
3 - Ask an adviser
Financial advisers are increasingly conscious of the sustainability credentials of any investments they recommend to their clients. That's because more investors are demanding to see this sort of information before they part with their cash.
4 - Be your own detective!
Verify the companies you're investing in. Check that their claims stand up to scrutiny. Anyone can say 'we care about the environment', but where's the proof that those companies are actually making a positive difference?
So - what's the best way to start impact investing?
Opening a Stocks and Shares ISA is the quickest and easiest way to get started.
Benefit from a £20,000 tax-free allowance each year (April 6th - April 5th)
Pay no tax on any interest or dividends.
