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What Is Social Impact Investing?

There are many ways to invest your money, including stocks, real estate, and bonds. Traditional investing is about making money while considering the risks. Social impact investing (sometimes called impact investing) has an additional goal: make the world a better place.

Social impact investing defined

The term “impact investing” was coined in 2007, but the concept isn’t new. For many years, investors with philanthropic mindsets have put their money toward organizations that promote social good and generate a financial return. People often use social impact investing and socially responsible investing interchangeably, but they are slightly different. Socially responsible investors look for companies and investments that aren’t actively harming the world. In practice, this could mean avoiding companies that contribute to greenhouse gas emissions.

Social impact investors, however, want to invest in companies that produce measurable positive outcomes for society and/or the environment. Socially responsible investing focuses on avoiding certain companies and practices, while social impact investing supports companies that commit to making progress. Social impact investing is found across many sectors. Investors frequently look for opportunities in health, education, small businesses, fair trade, sustainable agriculture, community development, and renewable energy. Companies often try to make an impact in more than one area, which makes them especially appealing to investors.

Social impacting investing strategies

There are two strategies investors use: impact first or financial first. With impact first, the investors’ main goal is a positive social, environmental, or economic goal. They are willing to accept a smaller financial return if it means investing in a company that furthers their goals. How do investors know if a company is doing well in this regard? Most of the time, you’ll need to look at the organization’s annual reporting that lists their social action initiatives, where the investments are going, and what the results are.

With financial first, the main goal is a larger financial return. Investors using this approach still stick to their values and invest in companies making positive progress on issues like climate change, affordable healthcare, etc, but they choose companies based on financial return.

Is social impact investing profitable?

Benchmarks matter. Benchmarks are measures that analyze allocation, risk, and return on a portfolio or investment. A benchmark is necessary to answer the question: “Is social impact investing profitable?” While social impact investing is not a new concept, the industry hasn’t attempted to apply consistent benchmarks until recent years. Lots of companies claim to make a social impact while giving good returns, but how they measure that can be convoluted. Some experts are ready to say that social impact investing can’t give the kinds of profits the industry promises, while others say there needs to be more research.

There’s some evidence that social impact investing is profitable. In 2015, a report by Morgan Stanley showed that sustainable investing funds met or even exceeded the median returns of traditional funds. In a survey by J.P. Morgan and the Global Impact Investing Network, 68% of social impact investors reported that their portfolio performance met their financial expectations.

Criticisms of social impact investing

There’s little doubt that the heart behind social impact investing is good, but how does it work in practice? There are circumstances where a company can actually make things worse. As an example, let’s say a company promises to help the environment. That attracts investors. However, the company doesn’t have clear guidelines on how they measure their environmental success. Without knowing if the company is doing well or not, investors can’t make good decisions about if they want their money to stay in this company or not. That’s money that isn’t going to support companies that are actually making a difference. In this situation, social impact investing holds back real progress in environmentalism.

This doesn’t mean that social impact investing is worthless. It just means that investors need to hold companies accountable and demand clarity. Good intentions aren’t enough. Companies and investment funds need to back up that talk with real results and prove that they aren’t causing harm with ineffective strategies. Companies also need to be honest about financial returns. If it turns out that returns are lower than traditional funds, is a company doomed? Not necessarily. Many people who go into social impact investing understand they’re making a trade-off. What matters is that companies tell investors the truth about how much money they should expect to make, so investors aren’t disappointed and disillusioned.

The future of social impact investing

Will social impact investing become as profitable as traditional funds? Will it make the world a significantly better place? It’s hard to say. More research is needed, as well as more guidelines for companies, industry benchmarks, and reports. You can find very optimistic opinions on social impact investing, as well as less-than-optimistic predictions. The reality is that the social impact investing is complex, but it’s worth further investigation.