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yourSRI - The ESG Service Provider

yourSRI - The ESG Service Provider

Member: Society Free
Since: 14.11.2017

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yourSRI: Crossing the Rubicon: why invest in impact?

17.05.2018 Share

When Julius Caesar crossed the Rubicon in 49 BC, he made a bold move that started a civil war and challenged the conventions of the time. I certainly don’t want you to start a civil war, but I do recommend you to reconsider some conventions in the asset management industry - such as its focus on cost and the trend towards passive. While not without merits, those conventions might be penny wise and pound foolish as they ignore deeper questions on the purpose of investing. In contrast, this article focuses on the benefits of a very active type of strategy: listed impact investing. There are at least three reasons to invest in listed equities impact, and they might surprise you.

#1: making the world a better place, in a profitable way

Why routinely invest in companies that hurt the climate or human health when we can invest in those companies that actually make the world a better place? Healthcare companies, enzyme makers, windmill manufacturers, some software companies, and many others provide valuable solutions to society that help achieve the UN Sustainable Development Goals (SDGs). And no, that doesn’t need to cost performance. Out of the 15,000 listed companies, we identified over 2,000 that have a positive impact. So, there is plenty of choice. What’s more, these companies tend to have higher growth, higher returns on capital, and lower cost of capital than the rest of the universe. Hence, it’s a more attractive subset of the investment universe.

#2: Investing in the strategy of the world = exposure to growth & profitability

And it gets better still. As DSM CEO Feike Sijbesma put it, “the SDGs are the strategy of the world.” The SDGs are 17 goals set by the UN in 2015, and they range from eradicating poverty and zero hunger to climate action, health, and gender equality. They are backed by nearly all countries in the world, which adjust their policies accordingly. Hence, most upcoming regulation will favor those companies that provide solutions to the SDGs (better health, less emissions, etc.), while penalizing companies that obstruct them – such as tobacco and coal companies. For example, as car companies struggle to meet increasingly demanding emissions requirements, they need help from their suppliers: Materials companies that provide better batteries, better catalysts, and lighter materials; and IT companies that build the components of electric cars. In that sense, the SDGs are a tailwind to the growth and profitability of solutions providers.

#3: Investing away from the herd

By nature, impact investing is active and far away from the benchmark. It needs to be active since it requires a profound understanding of a company’s business model and management to assess if there really is impact – there are no easy short-cuts like ratings that can be applied reliably. Impact is also far away from the benchmark, as the most interesting impact stocks tend to be midcaps and small-caps, often in emerging markets. Moreover, as our research found, the positive impact universe is very skewed to certain sectors like IT, Materials, Industrials, and especially Healthcare – with limited exposure to Financials and no exposure to traditional Energy, nor to industries like Tobacco and Airlines within other sectors. This may seem risky versus a benchmark, but it does not need to be on an absolute basis. And that is probably more relevant to the ultimate beneficiaries.

How to do it properly? Be disciplined & focused to maximize financial and impact returns

Of course, there are several ways to do listed impact investing. Not all of them will be equally successful as they might still give up returns – either deliberately or unintentionally. At NN Investment Partners, we believe that the best way to execute a listed impact strategy, is by a disciplined approach in a concentrated portfolio. The discipline pertains to achieving both strong financial returns and strong impact returns. For strong financial returns, we need to have a solid grasp of risk and opportunities. That ranges from traditional market risk (liquidity, volatility, factor exposures, etc.) and financial risk (leverage, valuation, cost structures, etc.), to the ‘softer’ areas of business models, management quality, and sustainability transition risk. Analyzing and navigating those risks is best done in a concentrated portfolio. And the same applies to ensuring impact returns. After all, we need to know very well what our investee companies are doing to achieve impact, and ideally, to measure that impact as well. This requires in-depth engagement with all our holdings, which is a labor intense but rewarding approach. For it allows us to have impact on them, by raising awareness and sharing best practices on impact measurement and reporting – while also building conviction on them as investments.

Seeing the benefits

In a portfolio, listed impact and passive investing might be a powerful combination. But in many respects, they are opposites and you might have to take a mental hurdle to see and appreciate the benefits of listed impact investing. Will you cross the Rubicon?

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