What you need to know about impact investing

It's a win-win when investments deliver both social and financial benefits.

More investors in Australia are considering whether their cash is deployed in a way that aligns with their beliefs and values, as the strong growth of ESG (environmental, social and governance) investment funds and options attests.

But some investors are taking it a step further and allocating their cash to investments that will help make the world a better place.

What is impact investing?

Known as impact investing, it is defined by the Global Impact Investing Network, a non-profit lobby organisation, as investments made with the intention to generate positive and measurable social and environmental impact alongside a financial return.

Investments can be debt or equity and include sectors such as renewable energy, affordable housing, sustainable agriculture, education and healthcare.

Is imact investing the same as ESG investing?

It is distinct from ESG investing, which screens out investments that might do harm but doesn't actively seek out investments that do good.

And in explicitly targeting a financial return, it is also distinct from philanthropy.

Some $20 billion in impact investments were made in 2020, according to a survey by the industry body Impact Investing Australia. This is a small amount compared with the country's overall investment capital.

The next survey is due soon and chief executive David Hetherington expects it to show annual growth in the mid to high teens.

What is limiting impact investing?

One of the issues holding back further growth is a lack of scale in some impact investment opportunities, says Hetherington.

Institutional funds want to commit tens of millions of dollars, or more, to an investment, and securing the initial investment to grow to that size is 
a challenge for many enterprises.

"It's the ability of high-potential small- to-medium-sized startups to access that middle tier of funding and, therefore, to build a pipeline of investible opportunities for institutional investors to be able to lean into," he says.

Kylie Charlton, the managing director of Australian Impact Investments, says that when she started working in impact investing two decades ago, eyes would glaze over when she made a presentation.

How is impact investing changing?

But that's changing.

"People are starting to give much more consideration as to the purpose of their investments beyond just the financial return that is required to fulfil their financial objectives," she says.

"And so, they're looking and asking those questions about, 'Well, if I'm investing in this, how does it align with my values?' "

The company is a research house that sifts through possible investments for clients. In the decade it has been operating, it has recommended 75 investments, 21 of which have reached their full terms, with an average realised annual return of 9.9%.

Recommended investments include the Australian Ethical Infrastructure Debt Fund, which invests in loans for assets that contribute to the transition to a low-carbon economy, such as solar farms and batteries.

The fund aims to deliver annual returns of 2%-3% above the Reserve Bank cash rate (after fees and expenses) over five-year periods.

On the social side is the Australian Unity Specialist Disability Accommodation Fund, a 10-plus year fund that invests in disability housing under the National Disability Insurance Scheme.

It is targeting net returns of 10%pa and has so far returned 8%pa in the three years it has been running.

Is impact investing a long-term commitment?

As with many assets in the impact investing space, these funds are limited to wholesale or sophisticated investors.

But there is a growing number of options for ordinary retail investors, with an increasing number of financial adviser groups offering access to impact investments on their investment platforms.

Many investments are unlisted assets with a long-term horizon, which also limits the ability of retail investors to take part.

But there are opportunities in the listed equity space. Fund manager Melior Investment Management (see panel) specialises in equities for its impact investing fund.

Co-founder and chief investment officer Tim King argues that companies working to solve some of society's difficult problems - availability of healthcare, global warming, housing shortages - have secular tailwinds because solutions are so much in demand.

Melior aims to create impact by engaging with the companies it invests in to encourage them to improve their ESG stance.

"If those companies can raise their ambition on their ESG ambition, then they will be derisked and they'll have a lower cost of capital and have more diversity of thought in the business, better business outcomes," says King.

"There's sort of a sound body of thinking that, if you invest in the type of companies we're investing in, through time - and I emphasise 'through time' because there's always periods of underperformance - we'll outperform the benchmark."

The fund has beaten the benchmark in its five years of operations.

How is impact investing making a difference?

Melior Investment Management has two aims: to achieve positive social and environmental impact by contributing to the United Nations Sustainable Development Goals (SDGs) and at the same time to deliver competitive financial returns by outperforming the S&P/ASX 300 Index over a rolling seven-year period.

It predominantly invests in large Australian-listed companies that it considers contribute positively to SDGs, including equality and education, health and wellbeing, economic participation and sustainable communities.

Its latest investment impact report outlines key SDG contributions that companies in the portfolio made in the 2024 financial year, including: 30,000 people in Australia who benefit from childcare facilities; 4500-plus Indigenous people employed; 2.5 million diagnostic imaging examinations on more than 1 million patients across Australia and New Zealand; and 332 million passengers transported on buses, ferries and trams.

For the financial year ended June 30, 2024, the fund underperformed the benchmark by -2.7% net of fees.

Get stories like this in our newsletters.