Thoughts on ESG/SRI/Impact Investing

This is a really interesting question. I worked in impact investing for a while (not public markets). Here's a couple thoughts.

• Demand for the asset class is ballooning. Think about it as exponential growth. You're an LP: first, you give $50m to an impact investor. Then, a few years later, you give $100m. Then, a few years later, you give them $200m. Then, that fund is happy maintaining size, so you give them another $200m next time they raise, and a different fund $100m. Then $200 and $200. Then $200 and $200 and $100. And so on. If I had to guess, on a scale from 0 to 10, where 0=Not at all mature and 10=Mature industry, we are at a 2 right now, with public markets impact investing at a 1.5, and private markets impact investing at a 2.5. There are even now many multi-industry managers as well as specific sector focused impact funds (e.g., one that will do education, renewables, agricultural development, etc., vs. one that will do just education).

• You're conflating a few things. ESG investing impact investing (as a mental model). ESG investing generally is focused on goals and procedures more than outcomes and tends not to measure outcomes at the same rate (e.g., what you are noticing when you see that a "low carbon" index will still invest in O&G, but just cut out the bottom X% performers). Impact investing more frequently attempts to measure a rate of return on social impact achieved through reduced negative externalities. I personally think TPG Rise does a pretty good job; here is an HBR article about Bridgespan's work developing their impact metrics. One of the interesting things about measuring impact investing is that there's been a debate about whether a custom metric works for every company (e.g., you run the risk of cherry picking) or you have a standardized approach; Bridgespan's IMM is one of the more creative ways to solve for that.

• More on impact measurement: However, after working in a fund that had both institutional and philanthropic capital, I've come more and more to think that it's not always as cut and dry. In the example above of EverFi, it's a B2B company so the impact is a little more clear to measure. But for B2C companies, what about the fact that benefits flow to those with the ability to pay? What if they achieve outcomes, but that outcomes are more closely associated with those that have ability to pay? It's a bit of a hairier question and one that you need a good moral compass to stomach. Here's an anecdote. There once was a federal judge ruling on what constitutes pornography. Where do you draw the line between Sears Catalog, Playboy Magazine, and Lisa Ann (happy belated mother's day)? In an on-the-record statement, he said "I can't define it. But I know it when I see it". Impact is a bit the same way. There are a lot of gray areas that aren't as cleanly measurable as TPG's EverFi investment.

• I don't remember the study, but there was a flagship report saying that while millennials report to care a lot about impact investing, most of them don't actually choose to pursue it (let alone invest at high enough rates at all, but that's neither here nor there for this topic). My own hunch: it's a bit of a "feeding your dog medicine issue" - you have to wrap the pill in ham to get it to go down. I think the asset class will never take off unless you get market returns. Frankly, if you buy into a future where we have runaway capital concentrate in perpetuity, nobody is going to be willing to accept the marginally worse off you become by not maximizing returns (on average, illustrative example, yadda yadda don't get caught up in this piece, I'm just making a point). If you get the option of "invest in impact vehicle for 10% return" and "invest in regular old other vehicle for 15% return", everyone is going to pick the latter unless you are Emerson Collective and can do whatever good in the world you want with your dead husband's money. Most people are not like that and are hustling to protect their locality's pension pool. Back to the Millennial point: these folks are 10-20 years away from being materially in the catbird seat of controlling capital allocation (they are simply aging into the demograpic). I have a hunch that if you can get people hooked on impact investing, you can slowly divert capital out of non-impact vehicles which effectively starves them a bit and tips the scales into volume of impactful operations. Wishful thinking, I know, but, what're you going to do if not stay optimistic.

• On the point of philanthropic capital: these are the only people that reliably invest for impact, because they don't really give a shit about returns the same way as institutional investors do. When you look at impact funds, and see the ones that have LP bases primarily of philanthropic capital, you know that they have to fight for every investment to fit PRI investment criteria (let me tell you - this process is a bitch). The GPs are doing everything they can to spin the investment opportunity as impactful (despite the fact the first calculation is straight up IRR). Institutional investors just care about IRR for the most part.

Anyway. I hope this thread blows up because it's a great topic.