What Is Impact Investing?

Impact investing is an investment strategy that aims to generate specific beneficial social or environmental effects in addition to financial gains. Impact investments may take the form of numerous asset classes and may result in many specific outcomes. The point of impact investing is to use money and investment capital for positive social results.

Key Takeaways

  • Impact investing is a general investment strategy that seeks to generate financial returns while also creating a positive social or environmental impact.
  • Investors who follow impact investing consider a company's commitment to corporate social responsibility or the duty to positively serve society as a whole.
  • Socially responsible (SRI) and environmental, social, & governance (ESG) investing are two approaches to impact investing, although there is still some disagreement over terminology in the investing community.

What is Impact Investing?

Understanding Impact Investing

The term impact investing was first coined in 2007, but the practice was developed years earlier. A basic goal of impact investing is to help reduce the negative effects of business activity on the social environment. That's why impact investing may sometimes be considered an extension of philanthropy.

Investors who use impact investing as a strategy consider a company's commitment to corporate social responsibility (CSR), or the sense of duty to positively serve society as a whole, before they become involved with that company. The type of impact that can evolve from impact investing varies based on the industry and the specific company within that industry, but some common examples include giving back to the community by helping the less fortunate or investing in sustainable energy practices to help save our planet.

This strategy actively seeks to make a positive impact by investing, for example, in nonprofits that benefit the community or in clean-technology enterprises that benefit the environment.

The bulk of impact investing is done by institutional investors, including hedge funds, private foundations, banks, pension funds, and other fund managers.

However, a range of socially conscious financial service companies, web-based investment platforms, and investor networks now offer individuals an opportunity to participate, too. One major venue is microfinance loans, which provide small-business owners in emerging nations with startup or expansion capital. Women are often the beneficiaries of such loans.

Types of Impact Investments

Impact investments come in many different forms of capital and investment vehicles. Like any other type of investment class, impact investments provide investors with a range of possibilities when it comes to returns. But the most important thing is that these investments offer both a financial return and are in line with the investor's conscience.

According to a survey by the Global Impact Investing Network (GIIN), the majority of investors who choose impact investing look for market-rate returns.

The opportunity for impact investments varies and investors may choose to put their money into emerging markets (EM) or developed economies. Impact investments span a number of industries including:

  • Healthcare
  • Education
  • Energy, especially clean and renewable energy
  • Agriculture

Environmental, Social, & Governance (ESG)

ESG refers to the environmental, social, and governance practices of an investment that may have a material impact on the performance of that investment. The integration of ESG factors is used to enhance traditional financial analysis by identifying potential risks and opportunities beyond technical valuations. While there is an overlay of social consciousness, the main objective of ESG valuation remains financial performance.

Socially Responsible Investing (SRI)

Socially responsible investing (SRI) goes a step further than ESG by actively eliminating or selecting investments according to specific ethical guidelines. The underlying motive could be religion, personal values, or political beliefs. Unlike ESG analysis which shapes valuations, SRI uses ESG factors to apply negative or positive screens on the investment universe. 

Special Considerations

Socially and environmentally responsible practices tend to attract impact investors, meaning companies can benefit financially from committing to socially responsible practices. Impact investing appeals largely to younger generations, such as millennials, who want to give back to society, so this trend is likely to expand as these investors gain more influence in the market.

Investors also tend to profit. A 2018 study by GIIN found that more than 90% of impact investors reported that their investments were meeting or surpassing their projections.

By engaging in impact investing, individuals or entities essentially state that they support the message and the mission of the company in which they're investing, and they have a stake in the company's welfare. As more people realize the social and financial benefits of impact investing, more companies will engage in social responsibility.

Impact Investing vs. Socially Responsible Investing (SRI)

SRI, which is sometimes referred to as sustainable or socially conscious investing or, when focused on environmental causes, green investing, is a form of impact investing. While the definition of SRI encompasses avoidance of harm, impact investing also suggests positive impact via its investments.

Investors who practice SRI tend to believe in and choose companies that subscribe to their views with respect to human rights, environmental protection, and a sense of responsibility to consumers. For example, some investors may choose not to invest in companies that manufacture, distribute, or promote cigarettes because of their overall negative effect on people's health.

Many asset management companies, banks, and other investment houses now offer funds specifically tailored to socially responsible investors.