As impact investing grows up, here are the trends to watch

The impact investing industry may still be somewhat niche. But with more than $1 trillion in assets now under management, it has the potential to make a difference when it comes to funding companies and projects that address global challenges from climate change to poverty. That $1 trillion threshold is a major milestone for the industry, which is focused on investing with specific, measurable impact targets in mind, and it's the result of growth in recent years. More than 3,300 organizations manage those impact investments, according to the Global Impact Investing Network’s estimates in its latest report on market size. There is “undeniable momentum” in the industry as demand for impact investments grows and more groups — including pension funds, insurance companies, and mainstream asset owners — get involved, GIIN CEO Amit Bouri said at a press briefing at the GIIN investor forum in The Hague in October. “It’s not nearly as big as it should be, but it’s big enough to pay attention to,” he said. Despite that growth, greater professionalization of the industry, and increased standardization of impact measurement and practice, the industry faces several headwinds. They include a lack of clarity around what investments are trying to achieve, the veracity of impact claims, and complexity in how deals are structured. “Impact investing is helping to drive a more equitable economic system and that feels like impact investing growing up a bit,” Fran Seegull, president of the U.S. Impact Investing Alliance, told Devex. “So of course it's time to reflect.” There was both reflection and looking ahead at the GIIN investor forum, which brought together some 1,500 investors, fund managers, and experts — a much larger crowd than ever before. Standardization One way the industry has changed in recent years is that many organizations are now using the same impact measurements or at least aligning their proprietary systems with the common frameworks, said Meredith Shields, managing director and head of the Citi Impact Fund. Those frameworks from the Impact Management Project and the Operating Principles for Impact Management were developed by the industry to create a blueprint and a set of key principles to guide impact investors and avoid confusion and duplication of systems. “It does feel like we’re all starting to coalesce around more of an aligned industry best practice, which is just so needed,” she said. “I'm excited that we've gotten out of analysis paralysis.” Now that there are generally agreed on methodologies and approaches, it’s possible to start comparing different strategies, determine what is working or isn’t, and better assess performance — all of which can move the industry forward, Shields said. With increasing agreement around what types of metrics to use, it’s possible to create benchmarks and compare peers based on their performance and what’s needed to achieve global targets, Bouri said. It will also allow companies and the industry to compare performance to the pace of change needed to achieve a particular climate target or Sustainable Development Goal. In October, GIIN and partners including the EQT Foundation, Temasek, and the Visa Foundation, launched Impact Lab, an industry initiative that will conduct research and create analytic tools to improve the positive impact of financial investments. The $4.5 million partnership intends to help investors more efficiently allocate capital to effective social and environmental solutions, Bouri said. This will improve the market’s sophistication, especially when it comes to understanding investment impact, but will also help determine how impact is achieved, so that the industry can be more effective at driving capital to solutions that work. There is still work to do on impact measurement and management, including ensuring that reporting requirements are realistic and practical, especially for small companies. It’s important to ensure that the metrics are meaningful not only to the investors but to the people implementing the projects or the entrepreneurs receiving the investment, said John Simon, a founding partner at Total Impact Capital, adding that otherwise “it’s garbage in, garbage out.” As the industry looks to scale and develop more financial instruments that aggregate investments rather than just one-off transactions, it will also need to create broad metrics that can cut across all of the Sustainable Development Goals, Simon told Devex. Growth trajectory Scaling up will also require focusing on some of the “boring stuff,” including the infrastructure, public policy, impact metrics, measurement, and reporting are critical to catalyze the field, Seegull said. “Standardization, replicability” are key, and while many in the industry may get an “adrenaline jolt” from doing “exotic layered structures” such as bespoke funds with different terms for different investors, she said that “if we really want to scale and move money, we need to standardize.” Historically, many impact investing deals were bespoke and time-consuming to design, and many still are. But as the industry looks to grow, it needs to find simpler vehicles that can be easily replicated and scaled, several experts said. Integrity Even as impact investing looks to scale, it must keep an eye on ensuring that individual companies and the industry more broadly actually deliver on what they promise. “Our strategy is focused on scale with integrity,” Bouri said. “From core characteristics, to principles of practice, to an impact measurement and management system, to an ability to compare and assess results. … This is part of our multipronged effort to not just prevent greenwashing, but also to drive a greater focus on achievement of impact.” Concerns about “impact washing” — when fund managers or bond issuers overstate or falsely claim an investment's positive impact on the environment or society, which could be one of the biggest threats to the industry — may be driving a call for more verification of impact. Verification is “sensible” and can be a useful tool for aggregating impact, placing investors within a broader landscape and tracking achievements across the industry, said Stephanie Bilo, chief client and investment solutions officer at responsAbility, an impact investing firm. Verification can also be used as a benchmark to help the industry improve. One investor at the summit said she was hopeful verification “becomes the norm, because it not only helps with integrity and trust, more importantly the internal learnings help lift the bar to the next level.” Clarity around what investments are trying to achieve and what they actually accomplish is critical. It may be the only way to avoid some of the challenges plaguing the environmental, social, and governance investing industry. In many cases with ESG and sustainable funds, people expect more than what’s being delivered. In other cases companies are actually falsely marketing investments as being ESG without having the proper policies in place to back those claims. “It’s all about transparency. The more sophisticated the industry becomes, the clearer it becomes,” Bilo said. With ESG it’s gone beyond that. In the past year, Republican politicians in several U.S. states have tried to prevent investors from considering environmental and social issues in their investments, setting up these investments as one of the latest political lightning rods. It would be naive to think that some of the criticisms of ESG won’t reach impact investing, Seegull said. For that reason, GIIN and the U.S. Impact Investing Alliance are working on messaging that will push back against misinformation, Seegull said. Diversity As interest grows in impact investing, greater pools of private capital will be directed at global development challenges. But ensuring that the focus goes beyond North America and Europe may require concessional funding to incentivize investors to look at broader geographies. Development finance institutions and development banks can and should play a role as a bridge between what investors can finance and what requires grant financing, Simon said. While there is a growing demand for high-impact products that essentially preserve capital, but don’t offer market-rate returns, they also face some challenges. Those types of investments need to be able to borrow cheaply. And with rising interest rates, it may be harder to convince investors to take a 3% return, when a traditional bond investment might earn them 5%, he said. Now firms like Simon’s, which focus on building financing mechanisms to address basic human needs, have to figure out how to make it work. While he hopes that rates will settle down, he may have to find ways to create more income in the structures or find investors willing to take a rate below inflation, he told Devex.