Making an Impact
Impact investing-doing good while making money-is in its infancy. Interested advisors can get involved now. Here are some ways to start.
By Ron Cordes
In the May issue, I introduced the concept of impact investments. They are designed both to deliver a financial return and address a key social or economic problem by investing in social enterprises. I also made a case for why advisors should be introducing this concept to their clients as a way to deepen their client relationships and create a first-mover advantage in their practices. In response to the calls and emails I received from advisors, this article offers an overview of the impact investment landscape and discusses specific types of impact investments that advisors can review and potentially begin offering to their clients.
The social enterprise movement that impact investing seeks to support has emerged over the past two decades and encompasses a wide range of organizations with various missions and areas of focus. The chart “People and Planet,” on page 56, while by no means exhaustive, includes several of the most prominent areas in which social entrepreneurs are developing solutions. These areas are typically divided based on social (people) and environmental (planet) issues.
A PLACE TO START
Advisors who are thinking about dipping their toes into the impact investing pool may want to start with microfinance. Microfinance is easily the most established social enterprise category (its creator, Muhammad Yunus, received the 2006 Nobel Peace Prize) and, as a result, the one where many impact investors are focused these days.
There are roughly 4,000 registered microfinance institutions, or microbanks, making small loans to local entrepreneurs in developing nations (often women in rural villages who can’t access capital through traditional banks) so that they can create new businesses or expand existing ones. These businesses might range from sewing clothing to raising chickens or selling food at a local village marketplace.
Microbanks typically charge borrowers interest rates of around 30% to 40%, due to the extremely high costs of servicing these extraordinarily small loans. Although these rates may seem high by developed world standards, they are only a small fraction of the rates charged by the black market loan sharks who typically are the only other sources of capital for these borrowers.
As those loans are repaid-and they are, indeed, repaid-the microbanks are able to put more new loans to work and pay their investors a reasonable rate of return. Repayment rates on microfinance loans have typically exceeded 95%, and debt investors in microbanks, for example, have traditionally earned yields in the mid- to high single-digits.
As with many impact investors, microfinance debt was my introduction to impact investing. My wife and I established the Cordes Foundation in 2006, with the goal of funding sustainable solutions for poverty reduction. A year later we invested in our first impact investment-a five-year note paying 6% interest through a fund managed by MicroVest, an organization creating global investment portfolios of loans issued to microfinance institutions across 20 countries.
Our foundation’s $500,000 investment now earns $30,000 a year, paid semiannually. It’s also secured by a significant loan loss reserve provided by the fund’s sponsor, and any currency exposure is hedged.
Despite the chaos in global markets in recent years, the investment has delivered exactly what it promised. In addition, our investment alone has provided enough capital for the microbanks in the fund’s portfolio to provide loans to over 1,000 local entrepreneurs.
Since then, we’ve also made investments in other people-focused social enterprises. These include a pool of collateralized loan obligations-a senior tranche paying 7.5% annually for seven years-issued through FINCA, a large network of microfinance institutions around the globe, and sponsored by Deutsche Bank.
We also have investments in the Sarona Fund, one of the first market-rate private equity fund-of-funds focused on the developing world. It provides expansion capital in the form of equity to social enterprises inMexico,East Africaand elsewhere. Another one of our investments is Root Capital, which offers secured bridge loans to Fair Trade coffee farmer co-ops that enable them to access the global markets and receive significantly higher prices for their crops.
Closer to home, our investments include the Northern California Community Loan Fund, which loans money to groups that build affordable housing in 46 low-income communities in California. We also invest in an FDIC-insured CD in the Self-Help Federal Credit Union, a community-based credit union providing basic, low-cost banking services to “unbanked” consumers in low-income areas.
On the planet side of the impact investment space, there are opportunities such asE+Co., a firm that issues notes to raise capital for investments in sustainable energy businesses in developing countries. Those investments allow for the growth of clean energy enterprises, reducing the dependency of rural villagers on fossil fuels for energy, increasing their energy supply and self-sufficiency and contributing to a cleaner environment. The notes, which pay 3% per year and are issued with an eight-year maturity, have to date funded over $30 million in debt and equity investments in over 200 energy enterprises in Africa, Asia and Latin America.
Another well-regarded option worth exploring is Generation Investment Management, the investment firm co-founded by Al Gore that focuses on sustainable investments. Generations manages a Climate Solutions Fund, which deploys capital to help solve the climate crisis. The fund invests in both private and public equity in the areas of renewable energy, energy efficiency, carbon markets and biomass. Designed for institutional investors, it seeks a market return of 9% to 12% above the MSCI World Index.
SOMETHING FOR EVERYONE?
As I noted in my previous article, the most common impact investing options in both the people and planet categories include private equity and debt funds (and funds-of-funds) that can carry minimums of $50,000 to $100,000 or more. Also, they can be highly illiquid, requiring holding periods of several years before investors can realize any gains. These characteristics mean that many impact investments will be best suited to more affluent, qualified investors.
That said, impact investments with more widespread appeal are beginning to emerge. For example, clients with as little as $1,000 to invest can take advantage of Community Investment Notes offered by the Calvert Foundation. These notes, which are offered in terms from two to 10 years and pay up to 3% in annual interest, support investments made by the Calvert Foundation in more than 200 social enterprises in the United States and abroad-including affordable housing and community development in this country, and microfinance and fair trade in the developing world.
Investors with $25,000 or more can target their investment into a particular area of interest and receive periodic reports from Calvert outlining the social impact of their investment. Calvert also offers several tools for financial advisors on its website.
POISED TO MATURE
The infrastructure and ecosystem for impact investing are still in the early stages of development. The space is reminiscent of the tech industry in the late 1980s, before many common standards and definitions had been developed. But big strides are being made to develop impact investments standards, share information and collaborate to increase the overall supply of impact investment deals.
At the Clinton Global Initiative last year, a group of impact investors, which included major foundations and investment firms, launched the Global Impact Investing Network (GIIN), a group designed to support and connect various impact investing groups around the world. Its website contains the most robust current source of information and resources for potential impact investors; it is an excellent place for interested financial advisors to begin their impact investing education.
GIIN is in the process of creating a comprehensive database of investment offerings. It is also working with other impact investors to develop transparent benchmarking standards for defining, tracking and reporting the social and environmental performance of impact investments individually and as a group.
While these steps are big ones in the evolution of the space, the development of impact investing will mostly likely be a series of starts and stops until more initiatives gather steam. In other words, there’s a ways to go before these investments reach the scale needed to hit mass appeal.
Where could impact investing go from here? It’s still too early to tell, of course, but imagine for a moment what could happen if even just a quarter of 1% of the approximately $40 trillion in total financial assets in the United States were ultimately directed to impact investments.
We’d have $100 billion of capital focused directly on solving the world’s toughest problems-with results that would prove far more effective than traditional charity and government aid. In addition, those forward- thinking advisors who choose to embrace this challenge would have the opportunity to stand out in a crowded field, add tremendous value to their clients’ lives and do their part to create meaningful, lasting and positive change in the world for generations to come.
Ron Cordes is co-chairman of Genworth Financial Wealth Management and president of the Cordes Foundation.
Original post in HighBeam Research