Key trends in impact investing

From new entrants and approaches to increasingly pressing challenges, the impact investing market continues to grow and become more nuanced.

1

New players join the impact space

When the Global Impact Investing Network surveyed impact investors back in 2011, three-quarters of respondents described the market as “in its very early stages”.

Fast-forward to 2020, and 69 percent of respondents in GIIN’s Annual Impact Investor Survey consider the industry to be “growing steadily”.

Indeed, GIIN estimates that over 1,720 organisations were managing $715 billion in impact investing AUM as of the end of 2019.

Among private markets strategies, data from PitchBook indicates that private equity accounted for 29 percent of impact funds closed between 2006 and March 2021, and 39 percent of capital raised.

Interest in the space among LPs and GPs has been growing in recent years, with a number of new players entering the market. Earlier this year, for example, BlackRock is understood to have launched a private equity impact investing strategy.

The asset manager joins firms such as TPG, Bain Capital, KKR, Blackstone, Apollo Global Management, Morgan Stanley and Hamilton Lane in launching a dedicated impact strategy.

Scott Barrington, CEO at North Sky Capital, which launched an impact fund of funds in 2005, describes the entrance of mainstream asset managers as additive.

He told Private Equity International’s affiliate title New Private Markets that these arrivals could attract larger pension funds to the impact space: “We are at a bridging moment where these pension plans will start with the big shops and then begin discovering more intentional, yet smaller, funds to invest in, either through their now bigger fund sizes or separately managed accounts that create customised investment themes like the ones we are beginning to do.”

2

Linking carry to impact gains traction

There has been some noise around carried interest of late, after the US House of Representatives’ Ways and Means Committee in September considered changes to the tax treatment of carry.

However, there may be more significant changes underway in the impact investing market that deserve our attention.

Firms such as Trill Impact, EV Private Equity and Capza have implemented schemes that tie carried interest to certain impact or ESG targets. “It creates alignment and demonstrates your intentionality around creating impact,” says Helge Tveit, managing partner at EV Private Equity.

The structuring of such schemes is a somewhat complex area, from how to design the right impact carry model through to how to effectively set measurable targets.

Amala Ejikeme, a partner with the investment funds group at law firm Kirkland & Ellis, says: “It has the potential to be an emerging trend, although we are only at the start of this conversation and there are a lot of different ways these schemes can be cut.”

Although such models are still in their early stages and due consideration is needed around whether tying impact to carry is the right step for individual firms, the measure does have its supporters.

“I sat on the advisory board for the IFC’s Operating Principles for Impact Management,” says Andrew Lee, head of sustainable and impact investing at UBS. “Principle two states that managers should consider aligning compensation to the realisation of impact.

“It’s an evolving field, but those aiming to deliver measurable impact should align incentives – after all, if impact is being measured, you should be able to tie it to carry.”

3

World’s eyes turn to climate action

Global leaders, climate scientists, activists and a range of other stakeholders have been gearing up for the 26th United Nations Climate Change Conference of the Parties. COP26, taking place in Scotland between 31 October and 12 November, brings together governments from around the world with the aim of accelerating their commitments to tackle global warming. It is being billed as “the world’s best last chance to get runaway climate change under control”.

The climate crisis has of course been on impact investors’ radars for some time. According to GIIN’s 2020 Annual Impact Investor Survey, 68 percent of respondents address climate change through their impact investments. More than eight in 10 of these respondents do so to “address an urgent, significant global challenge”.

This challenge is becoming ever-more urgent, as indicated by the Intergovernmental Panel on Climate Change’s report, which was published in August and described as “a code red for humanity” by UN secretary-general António Guterres.

Impact capital could play a key role in meeting the accelerated need for progress through its backing of innovative technologies and then helping them scale.

Quyen Tran, head of sustainable investing research for fundamental equities and director of impact investing at BlackRock, says: “We need far more solutions than we have… to address climate change goals. Impact investing is a pathway that bridges that imbalance by strategically supporting innovative business models and disruptive technologies tackling climate change.”

And impact’s purpose-driven approach could have a positive knock-on effect that could bring other entities on board in the fight against global warming. As Rekha Unnithan, co-head of impact investing at Nuveen, explains: “We have seen first-hand how impact investing – with its tangible outputs and proven change – attracts additional investment into sustainable causes from investors worldwide. In many cases, impact investing is the main entry point to investing in sustainability. This alone is critical to directing needed capital to address climate change.”

According to GIIN CEO and co-founder Amit Bouri, we need a new approach to climate action, which includes increasing investment in three areas: renewable energy, climate technologies and natural capital. “The climate crisis requires every approach we can muster,” he says. “By pushing these three investment frontiers, and adopting a patient and risk-tolerant approach to returns, investors will be contributing towards an economy that exists in harmony with our natural systems.”