We have written multiple articles over the years trying to make sense of the terminology and practices relating to ethical investing, stewardship, and everything ESG (environmental, social and governance).
This time our attention turns to the word ‘impact’, with many charities looking to align at least a part of their investments with their mission. At the same time, there are new rules on sustainability, with some products looking to be classified as ‘sustainability impact’ funds. This article sets out to determine where the terms are linked and, indeed, how they overlap.
SDR – Sustainability Disclosure Requirements and impact
New rules relating to sustainability in the UK are a welcome guard against ‘greenwashing’ or ‘impact washing’ while promoting fund transparency. The UK’s Financial Conduct Authority (FCA) published its new legislation, SDR, in late November 2023[1]. The regulations aim to improve the transparency and accountability of companies regarding their sustainability and environmental practices. One such method across the asset management sector has been to standardise the terminology and disclosure of sustainability metrics to investors in funds. Sustainability claims must be fair, clear, and not misleading.
The UK is not alone in introducing such measures; the European Union introduced its Sustainable Finance Disclosure Regulation (SFDR) in 2021[2], while in the US the Securities and Exchange Commission (SEC) also has its own rules in place.
One of the four labels is ‘Sustainability Impact,’ which 'aims to achieve a pre-defined positive measurable impact in relation to an environmental and/or social outcome'. To date, however, there has been low appetite for the UK’s SDR labels, with seemingly few funds approved (or even applying). This has led to the FCA recently extending its deadline by four months out to April 2025 to give firms more time to comply.
Some firms are choosing not to apply for the fund labels at all: Stewart Investors, arguably a pioneer of sustainable investing, will drop ‘sustainability’ and any related terms from its fund range, including the £6.5bn Asia Pacific Leaders Sustainability fund[3]. Its decision highlights the real challenge faced by the investment management industry, as well as the FCA in trying to demonstrate sustainability credentials, while tackling greenwashing. It is early days, but for investors, the end result could be a smaller pool of sustainable funds, which was clearly not the FCA’s intention.
What does ‘impact’ mean to charities?
In recognition of charities looking to maximise their impact, and the FCA’s SDR rules, the Charity Commission of England and Wales has clarified the approach to both responsible and social investments in revised guidance for trustees (CC14) in August 2023[4]. This Followed the conclusion of the much publicised ‘Butler-Sloss’ case in 2022[5] – which concerned the general power of investment and its relationship to charitable purposes. The guidance gives trustees even greater latitude in determining a responsible investment policy, as long as they consider if there is any material potential impact on financial returns.
So, is there a connection between the SDR’s sustainability labels and CC14’s social impact investments?
In short, yes. We are hearing from more of our charity clients how important it is to seek investments that might achieve a definitive positive contribution to either the environment and/or society, while also making a financial return. As a result, a fund with a ‘Sustainability Impact’ should be a win-win in this respect, but as ever, it is not straightforward as few funds will be able to align specifically with a charity’s own mission and fulfil the true definition of a social investment for them. The Charity Commission provides two examples:
A poverty relief charity, making some investments in affordable housing, affordable medicine, or in companies that pay workers a living wage, alongside the financial return that the trustees are aiming for from the investment. This helps to achieve a positive impact in support of the charity’s purposes, while the charity’s money is invested.
A development charity making a loan to a small-scale farming business. This helps to achieve the charity’s purposes directly through the investment by bringing benefits to the local population, as well as by providing a financial return from interest on, and repayment of, the loan.
A key participant in this sphere in the UK is Better Society Capital (formerly called Big Society Capital), which has defined impact investment as 'investments made with the intention to generate positive, measurable social and environmental impact alongside a financial return'[6].
Social impact investing is a specialist field, requiring investors to navigate challenges such as sourcing genuine, high-impact investments with limited financial history, monitoring their effects, and generating an attractive financial return in the process. There are a number of hurdles between agreeing to take part in impact investing, to then actually committing. For charity trustees, success in social impact investing largely depends on the skills of the board and the ability of key individuals to dedicate the necessary time and effort.
So, how might charities approach this?
1. Invest in a sustainable impact fund
There are an increasing number of impact investment funds, however selecting which to invest in is not without its challenges. Typically, the more impactful a fund is, the less liquid it is, and much greater due diligence is required from the outset. Though still limited within a small universe, these can be invested in just like any open-ended pooled fund.
The presumption that impact funds are distinctly different to traditional retail funds is brought into question if one takes a closer look into the detail. Some of the funds on offer to charity investors include statements such as investing in companies “…moving towards greater sustainability”. However, when you look under the bonnet, the top-five investments of one such fund included: Nvidia, the semiconductor chip manufacturer; EssilorLuxottica, an eyewear company; and Elevance Health, a healthcare insurance company. None of these have obvious sustainability characteristics.
Those who would consider themselves more evangelical about impact investing may challenge how ‘impactful’ these funds really are. Investors clearly need to be mindful of what they are really investing in.
A key requirement of the SDR rules is to provide evidence of any sustainability claims. With many listed companies held in these funds also held widely in traditional investment portfolios, it is important for charity investors to understand the thought process behind how and why an investment manager considers them to be impactful investments.
2. Invest to achieve demonstrable social impact
For investors wanting to achieve the greatest impact, much more comprehensive analysis is required to assess the capability of an investment manager to source, manage, and report on the social KPIs. It is likely that such an investment will be via an unlisted private market vehicle, and therefore this approach comes with the additional challenges of very little liquidity, as well as a plethora of legal forms.
While the financial returns from genuinely impactful investments may be below the wider market in the short term, the positive impact return can be very attractive, and provide some compensation. However, herein lies a second critical challenge: how does one set about measuring the impact an investment has had?
What about measuring impact?
For an investor wanting to understand how to approach impact measurement, the Global Impact Investing Network (GIIN) has provided the following summary[7]:
Investors’ approaches to impact measurement will vary based on their objectives and capacities. Measurement choices usually reflect investor goals and investor intention. In general, best practices for impact investing include:
- Establishing and stating social and/or environmental objectives to relevant stakeholders.
- Setting performance metrics and targets related to these objectives using standardised metrics wherever possible.
- Monitoring and managing the performance of investees against these targets.
- Reporting on social and/or environmental performance to relevant stakeholders.
In summary, the evolving landscape of impact investing is both promising and challenging and impact investments will undoubtedly become an increasingly relevant category. The FCA Sustainability Disclosure Requirements (SDR) and the Charity Commission's updated guidance reflect a growing commitment to transparency and efficacy in sustainable investing.
As investors and trustees navigate this complex field, it is crucial to understand impact investments thoroughly. While the path to meaningful impact may be demanding, for those who are prepared to go the extra mile, the rewards will be worth it, in more ways than one.
[1] https://www.fca.org.uk/publications/policy-statements/ps23-16-sustainability-disclosure-requirements-investment-labels
[2] https://finance.ec.europa.eu/sustainable-finance/disclosures/sustainability-related-disclosure-financial-services-sector_en
[3] https://citywire.com/wealth-manager/news/exclusive-fresh-sdr-blow-as-stewart-investors-rejects-fca-labels/a2450321
[4] https://www.gov.uk/government/news/guidance-on-investments-refreshed-to-help-improve-clarity-and-boost-trustee-confidence
[5] https://www.gov.uk/government/news/update-on-investment-guidance-following-butler-sloss-case
[6] https://bettersocietycapital.com/our-approach/impact/
[7] https://thegiin.org/publication/post/about-impact-investing/
This document is intended for retail investors and/or private clients. You should not act or rely on this document but should contact your professional adviser.
This document has been issued by Sarasin & Partners LLP of Juxon House, 100 St Paul’s Churchyard, London, EC4M 8BU, a limited liability partnership registered in England and Wales with registered number OC329859, and which is authorised and regulated by the Financial Conduct Authority with firm reference number 475111.
This document has been prepared for marketing and information purposes only and is not a solicitation, or an offer to buy or sell any security. The information on which the material is based has been obtained in good faith, from sources that we believe to be reliable, but we have not independently verified such information and we make no representation or warranty, express or implied, as to its accuracy. All expressions of opinion are subject to change without notice.
This document should not be relied on for accounting, legal or tax advice, or investment recommendations. Reliance should not be placed on the views and information in this material when taking individual investment and/or strategic decisions.
The value of investments and any income derived from them can fall as well as rise and investors may not get back the amount originally invested. If investing in foreign currencies, the return in the investor’s reference currency may increase or decrease as a result of currency fluctuations. Past performance is not a reliable indicator of future results and may not be repeated. Forecasts are not a reliable indicator of future performance.
Neither Sarasin & Partners LLP nor any other member of the J. Safra Sarasin Holding Ltd group accepts any liability or responsibility whatsoever for any consequential loss of any kind arising out of the use of this document or any part of its contents. The use of this document should not be regarded as a substitute for the exercise by the recipient of their own judgement. Sarasin & Partners LLP and/or any person connected with it may act upon or make use of the material referred to herein and/or any of the information upon which it is based, prior to publication of this document.
Where the data in this document comes partially from third-party sources the accuracy, completeness or correctness of the information contained in this publication is not guaranteed, and third-party data is provided without any warranties of any kind. Sarasin & Partners LLP shall have no liability in connection with third-party data.
© 2024 Sarasin & Partners LLP – all rights reserved. This document can only be distributed or reproduced with permission from Sarasin & Partners LLP. Please contact [email protected].