The year 2015 was an exciting time in the impact investing space as many different players, such as investment managers, banks, regulators, analysts, asset managers, financial advisors, family offices, foundations and endowments, engaged the capital markets to help solve some of the world’s pressing economic, social and environmental challenges. Their efforts in new investments, risk and performance evaluation, and educational activities helped to spread awareness and create opportunities for investors across every channel, from institutional to high-net-worth to retail. Such opportunities have allowed investors to select an approach, and often blend their portfolio, using a spectrum of strategies that include traditional socially responsible investing (SRI) via positive and negative industry screens and shareholder activism; environmental, social and governance (ESG) screens; and the pursuit of social, economic and environmental impact objectives.
The growth of impact investing and the increased incorporation of ESG factors into investment decision-making are driving a shift in the regulatory landscape of the sector. We believe that the mainstreaming of impact investing is an irreversible trend supported by more enabling legislation and investment guidance, an increase in rating and reporting systems, a broader array of investment themes across an increasing number of countries and sectors, and greater adoption by institutional, high net worth and retail investors.
As we start off the New Year, TriLinc Global will be discussing notable trends from 2015 that we see as relevant to the development and growth of the impact investing sector in 2016 and beyond. The first in a four-part series, the following post focuses on important regulatory and market developments that we believe will lead to significantly greater engagement opportunities for impact investors. These favorable developments will also bring challenges, such as the need for more transparent, uniform ESG and impact metrics and reporting, and more scalable, fully risk-adjusted products. These aspects will be addressed in subsequent posts, as we explore how investors can achieve their objective to invest in the geographies, sectors, social causes and issues that resonate most with their values.
Trend #1: The Mainstreaming of Impact Investing
In 2015 there were many noteworthy developments for key investor groups, such as foundations, endowments and pension funds, that will have profound implications for the impact investing space.
For example, under a Notice issued by the IRS and the Department of Treasury in September 2015, private foundations and endowments now have greater clarity regarding mission-related investments (MRIs). An MRI is an investment, using endowment assets, that seeks to generate social and/or environmental impact alongside a financial return, and may not expressly address one of the organization’s tax-exempt purposes the way a program-related investment would. The Notice provides guidance for officers and trustees, specifying that as long as the MRI supports the organization’s charitable purposes and the foundation managers exercise ordinary business care and prudence, the MRI would not violate “jeopardizing investment” rules and create a tax liability. The improved clarity regarding fiduciary duty and tax issues for MRIs will likely increase momentum among private foundations and other nonprofit organizations to seek risk-adjusted investments that also further their institutions’ values.
In a similar vein, in October 2015 the U.S. Department of Labor clarified its position relating to the fiduciary standard for pension fund administrators in considering “economically targeted investments (ETIs)” – investments selected for the economic benefits they create in addition to the investment return to the employee benefit plan investor. Generally, plan fiduciaries have operated under the interpretation that ETIs would violate the mandate that they must not subordinate plan participants’ economic benefits to unrelated objectives (e.g. ESG goals). The Department of Labor’s latest bulletin seeks to correct this misperception. It refers to the “all things being equal” test and clarifies that if pension fund administrators invest in an ETI, as long as their analysis determines that the ETI has a commensurate rate of return as other investments with similar risk-return characteristics and is otherwise appropriate for the pension plan, the managers have adequately fulfilled their fiduciary duties. The same standard applies to fiduciaries’ selection of investment managers.
The MRI and ETI rulings are compatible with the conclusions of an article by the UN Principles of Responsible Investment (PRI) published in September 2015. In “Fiduciary Duty in the 21st Century” the PRI holds that integrating ESG factors when making investment decisions is a vital component of fiduciary duty. The article acknowledges specific challenges in implementation and oversight, and it makes recommendations for asset owners, policy makers and intermediaries with the goal of enabling better decision-making, transparency and investment performance.
The documents summarized here represent a sea change for private foundations, nonprofits, pension funds, asset owners and institutional investment managers, who up until now, believed that considering ESG factors in investment decisions was a breach of their fiduciary responsibility. The new approach promoted by the IRS, Department of Labor, PRI and many other thought leaders acknowledges that environmental, social and governance factors may have a direct bearing on the economic and financial value of an investment, and should therefore be included in the analysis of the relative merits of competing investment choices.
This post is the the first in the four-part series, “Impact Investing: What’s to Come in 2016,” written by Melissa Tickle, TriLinc Global Impact & ESG Analyst.
This post was originally published on TriLincGlobal.com
Visit the Invest With Values - Resource Directory to access leading investor information, opportunities, organizations, events, groups and tools.