Using institutional investor money as a quick way to fund projects that address a specific social problem is an idea gaining momentum. There is a steady stream of social impact bonds originating from central government in the UK and local government in the US, while Mike Baird’s affordable housing tender in New South Wales will be a test case for other state governments.
Many investors are eager to be involved, not least for story telling with members who might otherwise be disengaged from their fund’s activities.
But, currently, the supply of such investments is much lower than demand.
“Many of us who have a will or an interest in this space haven’t been able to deploy capital, or large amounts of capital, because of structural impediments,” says Richard Brandweiner, chief investment officer of First State Super. “We are a long way away from making it work in real scale.”
Part of the problem is that social impact initiatives have been traditionally undertaken by organisations who have received a government grant or a bank loan. One of the consequences is that many initiatives have been established on a deal-by-deal basis, which is not appealing to institutional investors.
“Until there’s standardisation in terms of the way that they’re structured, you’re unlikely to see them take off any time soon,” says Greg Clarke, head of growth assets at QBE. “We get involved quite early to have an influence on the terms, and grow them in the market as quickly as we can. But even then we are usually the only institutional investor at the table.”
Clarke’s account hints at the disproportionate time and effort needed by all who invest in this space compared to other investments.
“We have sacrificed more in terms of internal resources researching some of these things than we would ever dream of doing for a non-impact investment,” says Tim Macready, chief investment officer of Christian Super, a state of affairs that was familiar to others at the discussion.
While social impact bonds have been a starting point for some institutional investors, impact investing can be much broader according to Hugh Lawson, the New York-based global head of institutional client strategy at Goldman Sachs Asset Management. In his experience, it can be a way to challenge conventional wisdom and a “creative fuel for rethinking about business models”, where commercial enterprises seeking capital can achieve a double bottom line – solid returns for investors and an important environmental or social impact.
He describes the space as being “a laboratory for innovation and experimentation and service delivery”. In this manner, impact investing can be a form of specialist private equity investing. Some of the $500 million invested by Imprint has gone into the production of environmentally sustainable household-cleaning supplies; real estate projects focused on affordable housing; and smart-home technologies that increase energy efficiency.
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Impact investing is a way of capturing growth in emerging markets, particularly in the provision of renewable energy sources.
Bill Hartnett, head of ESG at Local Government Super, is effusive on the impact here. “There is a huge demand for energy in emerging markets. It’s such a multiplier in terms of the benefit it will have for those economies; if you’ve got a light bulb, people can read, they can get educated, they can get jobs.”
He says there is a good case for such countries sidestepping the traditional production of energy by going straight to solar or wind-generated power. He points out that in many such countries there is no battle with subsidised power industries and so no stranded assets. The Paris Climate Agreement will be a stimulus to such investments.
To this end, Andrew Spence, chief investment officer of Qantas Super, spoke admiringly of the strong return his fund was making from wind, hydro and solar-generated power generation in Asia through the Equis Funds Group.
“A lot of it is green field and is actively promoted by governments, it’s a very attractive return stream for us,” he says.
Stuart Wilson, ESG manager at Sunsuper, agrees that investing in emerging markets probably has the greatest social impact, as a dollar goes further in those countries. Tim Macready said investments in such markets were often highly uncorrelated to other fund assets.
One delicate issue all investors have to ask themselves is what concession they are making on investment returns in order to achieve a social impact.
Some projects can be structured to offer such a concession, but there are those that are predominantly designed to bring a financial return with the ancillary benefit of a social impact. Equally, both facets can be seen in different tranches of debt in the same project.
Clarke reports how social impact bonds in the US offer a lower return tranche with a guaranteed return, but other tranches offer a riskier ride. The split is there to encourage institutional capital at the right risk-adjusted rate of return.
Macready says: “We’re in products that in aggregate we do not think will achieve a market rate of return, but our tranche will, because other investors, philanthropic foundations, have come in and taken a different slice.” This is testament to the greater freedom of the US philanthropic sector to take greater bets on their beliefs.
However, one concern that chief investment officer of ESSS, Matt Kempton, raises is the dynamics of a project where investors who do not expect a market rate of return share an investment with those who do.
Lawson gives a case study of concessionary investing: “In one investment our Imprint team made on behalf of their client, they were essentially getting rates of return from a loan that you would see in a fairly credit-worthy, developed market investment, but the investment involved emerging market risk,” he says. “We thought the opportunity was clear, and the business couldn’t support what then was an EM spread, but it could support a developed market spread,” he says, “and the investment made sense in light of the end client’s impact objectives.”
One of the intangible returns on impact investing is its ability to engage with funds’ youngest members. Macready describes Millennials as seeing the purpose of business as providing constructive solutions for society, rather than as returning profits to shareholders. The view that Millennials would need to be communicated with differently, and would have higher expectations of transparency was common among the round table participants.
The value of this approach and the business case for putting in extra work is backed by Adrian Trollor, head of portfolio construction and sustainability at BT Investment Solutions. He notes: “SRI funds have probably failed in communicating to members the outcome, whereas impact investing has a far closer nexus between the investment and the impact.”
Rodwell-Ball notes that not all members are happy with the prospect of an investment being undertaken with any hint of not maximising potential profits. However, he feels sure ethical investing is the right approach.
“As trustees and fiduciaries, we have a responsibility to invest responsibly, as long as the risk-adjusted returns are there,” he says. “It’s not necessarily at this point in time reflecting our members’ views or feelings, but we need to do it.”
Coalition of investors
There is a common frustration from super funds at the relative lack of social impact opportunities in Australia. Federal and state governments often talk about the need for super funds to invest in infrastructure, but do little to facilitate that.
“When we try to engage with governments, with peak bodies, with people who actually need finance or capital, we find the classic issue we have is not knowing who the counterpart is,” says Anthony Rodwell-Ball, chief executive of NGS Super.
The feedback from employers in his fund is that New South Wales will need to build enough new schools over the next 10 years to accommodate an extra 150,000 pupils, a task NGS Super would be interested in funding.
Such frustrations are making a coalition of institutional investors to provide a single voice for impact investing likely.
Spence says: “The political landscape is ideal for a coalition of institutional capital to forge a closer partnership with government.”
Brandweiner lays out the imperative of such a coalition as a way of harnessing the incredible spending power super funds will achieve.
“Our system is so large in the context of a small economy, the investment decisions that we make are going to have a ramification, be that positive or negative,” he says. “With the growth in the system in 10 years we’ll be five times the size of the economy as a super system.”
One of the most immediate uses of such a coalition would be to work with the federal government on a national proposal for dealing with affordable housing – state treasuries recently submitted their ideas on this to the Commonwealth Treasury.
Examples of social impact investing
Affordable housing, NSW
Cbus has joined several consortiums of private, public organisations and NGOs in bidding to build homes for the New South Wales Social and Affordable Housing Fund. Nicole Bradford, investment manager, ESG for Cbus, says: “The fact we’re starting to talk about it and collaborate with organisations we would not typically engage with beyond the fund managers, it’s actually a really interesting exercise to go through.”
She explains that one of the consortiums has identified the potential to develop new ways to finance affordable housing, which could be used to increase supply in this area.
Health care bonds, US
In the US, investors have helped to fund the provision of healthcare to parts of the country that were previously poorly served, often in rural locations, after the passing of the 2010 Affordable Healthcare Act which has become better known as Obamacare.
Disability bond, UK
Funding to pay for disability scooters or specially adapted cars for those with physical disabilities has been created in the UK to help those who have suffered disabilities get back into the workplace. First State Super has invested $70 million in such a bond issued by an NGO which is liquid and A rated.
Greg Clarke, head of growth assets at QBE, says: “The impact there is actually quite pronounced, because it means the standard of living [for those that have suffered disabilities] goes through the roof; they can get to health services, they can get employment, so the impact is quantified. It’s a relatively large exposure to a corporate, traditional investment, so it’s not diversifying away from the traditional corporate bond spread perspective, but it’s just an investment that does have an additional direct impact on existing society.”
Tim Macready, chief investment officer, Christian Super
Anthony Rodwell-Ball, chief executive, NGS Super
Hugh Lawson, global head of institutional client strategy, Goldman Sachs Asset Management
Greg Clarke, head of growth assets, QBE
Andrew Spence, chief investment officer, Qantas Super
Stuart Wilson, ESG manager, Sunsuper
Matthew Kempton, head of investments, ESSSuper
Nicole Bradford, investment manager – ESG, Cbus
Kate Temby, co-head institutional sales – Asia ex-Japan, Goldman Sachs Asset Management
Richard Brandweiner, chief investment officer, First State Super
Bill Hartnett, head of sustainability, Local Government Super
Adrian Trollor, head of portfolio construction and sustainability, BT Financial Group