Over the last decade, impact investing has attracted a significant amount of attention and has achieved a remarkable degree of traction. Defined broadly as an investment strategy seeking positive social or environmental returns beyond purely financial returns, the industry was projected to see the allocation of over $10 billion in 2014, according to a prominent JPMorgan/GIIN study. By the end of 2015, the actual realized growth of the space has been significant: the market is now expected to reach $2 trillion by 2025 and upwards of $10 trillion by 2050. Meanwhile, it is estimated that we will require 30% more water, 50% more food, and 40% more energy by 2030.
Given the complex of growing environmental, social and developmental issues on local, regional and global levels, many wealthy investors are increasingly focusing their attention on innovative products and strategies devised to both alleviate and combat the challenges they most care about. In fact, many see impact investing as a viable alternative to traditional philanthropy, by aligning investment dollars with values, without forgoing financial return.
Primarily invested through private equity and debt, impact investors include accredited individual investors, corporations, family offices, endowments, foundations, and development financial institutions, among others. Although the market continues to lack depth in the availability of investment products, there is much on the horizon, as strategies are maturing, best practices and benchmarks are better defined, and viable solutions and investment vehicles are being applied across sectors.
Though institutional investment appears to be the linchpin for meaningful industry growth, the evolution of the impact space is being driven by demand from individual investors. And while private capital currently plays a significant role, a growing number of individual investors express a desire to participate in a greater capacity.
It has long been recognized that there is a demonstrated willingness among “impact-first” high net worth investors to forgo some financial return for the sake of generating impact, yet these investors are typically not prepared to absorb capital losses. For individual investors who are interested in impact investing but concerned about illiquidity and loss of principal, we believe that many of the risks associated with other asset classes can be mitigated by investments in municipal securities.
Lost on many investors is the concept that municipal bonds—though not typically defined as an impact investment—could be considered the original impact investment; the most mature, time-tested, and tax-advantaged vehicle.
In addition to financing important environmental and social projects, municipal bonds can reduce portfolio volatility through allocation to an uncorrelated asset class that complements an impact focus. For example, while conventional impact themes include microfinance and investment in small-to-medium enterprises, municipal credits may be selected that support low income housing, education, pollution abatement, infrastructure, healthcare and clean energy projects. Importantly, predictable coupon payments ensure cash flow and offset potential loss of principal from riskier investments. This feature enables municipal asset managers to play an important role in the development of an impact investment strategy: by designing and building the foundation for individuals’ portfolios.
It is important to emphasize, however, that while we call attention to the role municipal bonds can play, the frameworks required for security-level assessment of environmental and social impact are not yet mature. More so than in the equity and corporate bond markets, where standardized metrics and disclosure requirements are easier to design and implement, the universe of municipal issuers is characterized by greater idiosyncrasy, lesser transparency, and daunting coordination challenges. So, although the full impact of a given credit cannot presently be measured and benchmarked without the engagement of dedicated, specialized third party providers, we recognize that diligent credit screening can align portfolio holdings with an investor’s broader impact mandate. An impact verification process can then be applied at the expense of the investor.
Overall, we are enthusiastic in offering investors a potentially overlooked perspective on the role that municipal securities can play in supporting the impact investing movement. Mobilizing capital for these efforts is crucial.
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