Impact investing was founded in private markets, where large shareholdings could offer influence, and engagement could be more direct. But if the promise of impact investing is to be realised, to shift mainstream finance towards a new paradigm of impact, then public markets must be involved.
Public companies are companies that are ‘listed’ on a stock exchange. Their shares are traded daily in a secondary market, and often in immense volumes. This factor alone means ‘impact investing in listed markets’ will always require unique treatment to the way impact investors in private companies measure and manage impact.
“a financial ecosystem that only includes private markets is incomplete, and public markets are an important part of the life cycle of companies that aspire to reach a certain scale.”
There’s been plenty of debate on the topic, and fund managers both in Australia and around the world have brought listed impact funds to market, but opinions and methodologies remain diverse.
Which is why the Global Impact Investing Network (GIIN) embarked on a research and consultation process to produce Guidance for Pursuing Impact in Listed Equities.
The report is informed by input from more than 100 investors, and was developed by GIIN’s Listed Equities Working Group.
The goal was to evaluate market trends and understand the approaches investment managers were using when creating impact investment strategies in listed markets. And the outcome is a model providing baseline practices and expectations for asset managers wanting to build a listed equity impact fund.
The guidance materials are intended to both inform existing fund managers that have listed impact strategies, as well as offer guidance for those interested in taking their impact practice into public markets.
Tim King is founder and CIO of Melior Investment Management, an impact investment firm focussed on listed markets. The firm sent a submission to the GIIN as part of the research phase, and the firm supports the project, recognising its importance to broaden and solidify recognition of impact principles driving better outcomes in public companies.
“As a pioneer in listed equity impact investing asset class in the Australian market, Melior applauds the work done by the GIIN Listed Equities Working Group and the guidance prepared on this important area.” Tim says.
“We believe that Impact Investing in listed equities is not only possible, but is essential in order to tackle the environmental and social challenges that the world faces. GINN’s new guidance is therefore a very important development for framing baseline practices for Impact Investing for listed equities asset managers.”
The 4 Key Aspects of The Guidance
The core of the guidance materials are framed around four areas:
- Setting fund/portfolio strategy
- Portfolio design and selection
- Performance data usage
But it also opens with a useful rundown of the key aspects of public market impact investing that differ from traditional private market impact.
It defines the importance of developing a ‘theory of change’, when planning a listed impact strategy. Defining the key factors that are unique to listed markets, and which should be considered as both levers for change, and analytical factors, when it’s being planned.
It also explores the tricky concept of ‘investor contribution’, which is heavily influenced by the asset class that is being targeted. It views it from two dimensions: a) the actions and impacts of a company that will decide whether it makes it into the portfolio, b) work done by the investor to ‘support, accelerate, or enhance the ability of the company to deliver these impacts’.
Unique Factors to Consider in Listed Markets
“As an asset class, listed equities are idiosyncratic by nature, such that it is not possible to exactly replicate many of the impact practices used in other asset classes.”
It’s clear that listed impact strategies are going to be different to their private market cousins. So, the first step is to identify these differences, and develop a strategy accordingly.
The GIIN guidance defines the following core differences:
1. Investor-investee relationship:
Investors in listed markets tend to have less concentrated ownership in a single company, which can limit their potential influence. Also, investing in a secondary market does not see funds go directly to a company’s balance sheet, which must be factored into any assessment of an investor’s contribution to impact.
2. Diversification within individual portfolios:
Investors in listed equities enjoy significantly higher diversification options, this can make listed portfolios more diverse across geographies and themes, which adds complexity.
3. Liquidity and fluidity of the market:
Listed markets offer far greater potential for portfolio turnover, and rebalancing is expected. This requires policies to ensure portfolio management remains inline with impact outcome and any engagement activities, or efforts to support the share price.
4. Complexity of investees:
Listed companies tend to be bigger and more complex. This makes it more difficult to identify the net impact of a company as positive operations may be counterbalanced by negative impacts.
5. Access to data:
Disclosures by listed companies tend not to include measurements of impact outcomes, so investors must often rely on gauging impact by means of models and projections.
6. The role of traditional equity indices or benchmarks:
There is considerable pressure to align investment performance with that of a benchmark, or index. But these passive benchmarks rarely include weightings based on specific impact profiles of the companies.
Four Core Impact Elements Behind a Listed Equity Strategy
The guidance report seems eager to avoid being too prescriptive. The language focusses on a process of researching the key models in the market, in order to define baseline practices for others to follow.
This guidance is then presented inline with GIIN’s Core Characteristics of Impact Investing, which have become a globally recognised definition of impact investing. Each of the four characteristics are then explained in the context of building a listed equity impact strategy.
The first aspect is setting fund/portfolio strategy, which is neatly aligned with the well-known concept of intentionality. The requirement is for the impact investor to define the intended real-world outcomes they’re targeting for the fund, which is also articulated in the theory of change.
The second aspect is portfolio design and selection, which is aligned with the core characteristic of using evidence and impact data in investment design. The guidance for managers focusing on listed markets is that decisions around diversification, and the number of holdings, should be aligned to the specific, real-world impacts targeted by the strategy.
The third aspect is engagement, which aligns with managing impact performance. Engagement is where the rubber hits the road of impact, it’s the main lever for change that investors can use to influence change within a company. And with listed assets, that get increasingly difficult as the size of the company increases, and the weight of your share holding decreases.
Engagement priorities should be inline with the theory of change, and focus on accelerating the potential contributions the company can make.
The final aspect is performance data usage, which aligns with core characteristics #2 and #3. The focus here is on investment managers assessing the impact performance of their portfolio, beyond relative measures of peer performance. It’s identifying how companies are contributing to driving real-world outcomes.
Listed Markets Are Too Big to Ignore
The sheer size of listed markets means that any positive real-world outcomes that are achieved, through an investor’s contribution, will have a big impact.
But of course, it will be a very different process to get there than was experienced in private markets. Progress will only be made if the differences are recognised, and the pathways to influence and eventual impact are developed within the unique context of listed markets.