Impact Investing: From Headlines to Fundamentals

The level of discussion among government, investors, philanthropists, and nonprofits around the topic of impact investment has recently hit a new high watermark. Is a silver bullet for addressing skyrocketing deficits, uncertain financial markets, and staggering need just around the corner? No—but impact investing is a potentially very powerful use of finance that can help fast track the transformation of the market economy into a sustainable economy.

The marketing around the theme of impact investment has been brilliant. But for all its promise, it is not well understood outside of a small group of early adopters, and even this band of innovators harbors multiple and sometimes-contradictory understandings of the concept. This fragmentation leaves government, investors, business, and civil society that want to engage wanting for the structural realities they need to succeed.

As part of its G8 presidency this year, the UK Government hosted the first-ever G8 Social Impact Investment Forum to begin enabling the potential of impact investment. Coinciding with this event, Impact Economy, a global impact investing and strategy advisory firm, released a new report, “Making Impact Investible,” at its third Impact Economy Symposium & Retreat, a Clinton Global Initiative Member Activity. The UK Cabinet Office distributed a primer version of this report to attendees of the G8 forum. The goal of these reports (both written by co-author of this post, Maximilian Martin) was to help bring coherence to the market. Whether or not this effort was catalytic is best left for future scholars, but the following are some important insights that emerged from it.

The original report offers a snapshot of an industry on the cusp. It looks at the fundamentals driving the magnitude of supply and demand, and outlines four trends that are shaping the enthusiasm for impact investment:

1. Serving massive unfulfilled needs at the base of the pyramid
2. The imperative for radical resource efficiency that promotes economic growth while reducing pollution and greenhouse gas emissions, minimizing waste and inefficient use of natural resources, and maintaining biodiversity
3. The modernization of the welfare state and public service reform
4. The rise of Lifestyles of Health and Sustainability consumers (that is, a consumer segment favoring products and services related to sustainable living and a low carbon footprint)

The report subsequently discusses how all actors involved—including foundations, angel investors, financial services institutions, and others—can contribute to and benefit from the growing impact investing industry. It ends with a series of recommendations for strengthening the industry; it also highlights the need for increased transparency and improved measurement systems.

But these are just the front-page headlines. Buried deeper is an examination of the true possibilities of impact investing. For instance, JP Morgan predicted in 2010 that over the following 10 years, the impact investing market had the potential to reach $400 billion to $1 trillion in invested capital and $183 billion to $667 billion in profit. This is usually where the discussion about the estimated market opportunity for impact investment ends. However, contrast this with the fact that there were more than $600 trillion in financial assets globally in 2010 and there will be an estimated $900 trillion in financial assets in 2020. Many consider JP Morgan’s estimate about the potential impact investing market size ambitious. But even if it is correct, impact investing might grow to only 0.1 percent of total financial assets by the end of the decade. This means it seemingly has all the promise of a drop in the bucket. Yet, if impact investment does its homework and asserts itself as an investment style rather than an asset class, the ramifications of this $36 billion industry on the overall competitiveness, prosperity, and sustainability of the world’s market economies could very well exceed the significance implied by the estimates.

In his comments to G8 Forum attendees, UK Prime Minister David Cameron remarked, “We’ve got a great idea here that can transform our societies by using the power of finance to tackle the most difficult social problems ... ” Having taken part in the group that originally coined the concept of impact investing on the shores of Lake Como in 2007 and having been active in the space before and since, it is heartening for us to see that the potentially biggest new idea to make finance work for social progress and the global economy is now also considered at the level of the G8.

However, we need to close the widening gap between the ambitions of the market and its current reality. This will require deeper and more creative thinking about:

• The policies needed to create an enabling environment
• A shift in focus from investing in an impact investment asset class to investing for impact across asset classes, and the development of financial products that can facilitate this
• More critical scrutiny of what qualifies as “impact” and the processes organizations use to measure it (see the interesting debate in the recent SSIR series on and around “When Can Impact Investing Create Real Impact?”)
• A serious effort to determine why important players are not engaged and what it will take to engage them

Only then will we start to transform societies. Only then will we know if we have done so for the better.

Read more stories by Maximilian Martin & William Burckart.