What is Social Impact Investing?
Over the past few decades, we’ve seen the rise of massive global, multi-conglomerates. Companies like Amazon play an increasingly influential role in the world we live in. As such, investors demand that these companies do more to address society’s problems. In their mind, a company like Amazon should be responsible for its potential negative impact on the world. It should also offer fair wages and good working conditions. This ideology has given rise to social impact investing. Let’s examine what exactly social impact investing is and how it works.
What is Social Impact Investing?
Social impact investing aims to generate a positive societal return as well as a financial one. In other words, the goal is to invest with companies that are actively trying to do good. Other names for this form of investing are socially responsible investing (SRI) or environmental, social and governance investing (ESG).
To understand social impact investing, we need to examine the relationship between corporations and society. To do this, let’s look at a company like Amazon.
Amazon provides a massive benefit to society. It helps people around the world get goods at lightning speeds. It also provides services for cloud computing, music/video streaming, and grocery delivery. On top of that, Amazon employs tens of thousands of people. Over the past two decades, it has helped enrich its shareholders. It’s safe to say that Amazon makes the world a better place. But, all of these benefits are not without downsides.
For example, Amazon is also one of the planet’s biggest polluters. It owns offices, warehouses, fulfillment centers, delivery vans and airplanes. All of these contribute greenhouse gases to the environment. Many workers also criticize Amazon for its poor working conditions at fulfillment centers. And, Amazon’s stock has helped contribute to a rise in wealth inequality.
Due to Amazon’s immense influence, investors want to hold it accountable. This is where social impact investing comes back into play.
NOTE: I’m just using Amazon as an example. This scenario applies to thousands of companies.
A System of Checks and Balances
Social impact investing acts somewhat like a balance of power on the world’s biggest companies. It’s a way for investors to keep large corporations in check. If a company isn’t committed to serving society then investors can choose to withhold money. Granted, individual investors don’t have much influence. But, large institutional investors with billion-dollar funds do.
The two most common types of social impact investing are ESG investing and socially responsible investing. Let’s break down these two strategies to see how they differ.
ESG investing is short for environmental, social and governance. It’s a subset of social impact investing. For example, ESG investors will analyze companies based on these three factors:
- Environmental: Relates to the company’s relationship with the physical environment. Is the company taking steps to reduce its impact on the world around us? Does the company prioritize offsetting carbon emissions? Does the company donate money to environmentally-focused nonprofits?
- Social: Examines the companies’ relationship with stakeholders and the overall community. Does the company take care of its employees? Is the company’s workforce diverse? Is the company active in the community?
- Governance: Looks at how the company runs its internal operations. Does the company’s management team operate with integrity? Is the company transparent in terms of its financial reporting? Are there signs of corruption within the company?
Over the past few years, investors have shown more interest in ESG investing. According to SustainFi, ESG funds reached a total of $357 billion in assets under management in 2021. This is up from $236 billion in 2020. Additionally, investors are less likely to invest in companies that don’t prioritize these goals. You can read more about which companies we consider to be exceptional ESG-focused investments.
Socially Responsible Investing (SRI)
Socially responsible investing (SRI) is another subset of social impact investing. It’s fairly similar to ESG investing but with some slight differences. ESG investing focuses on how a company is reducing its negative impact.
For example, let’s say a major oil company invests heavily in carbon offsets. Investors may still consider this oil company to be a good ESG investment for this reason. In this sense, investors care more about the company’s initiatives than its underlying business. SRI investing, on the other hand, focuses on the nature of the business itself.
SRI investors are likely to stay away from companies in questionable industries. This could mean companies that sell alcohol or promote gambling. That’s because these industries typically have a net negative societal impact. It’s hard to argue that the world would be a better place with more alcohol and gambling.
Instead, SRI investors prioritize companies that seek to improve society. For example, an SRI investor would probably buy stock in electric vehicle companies.
How Can You Get Started?
There are two ways that you can get started with social impact investing. First, you can do your own research. These days, many companies file their own impact reports. For instance, you can usually find them by searching for the company’s name and “Investors.” On the investor page, you should find a sustainability report or similar document.
For example, Nike is one of the most socially-conscious companies in the world. Its website has an entire section devoted to sustainability. Here, investors can learn how Nike is working to improve the world. You can use resources like these to learn about companies that you already want to invest in.
Another strategy is to invest in an ESG or SRI fund. These are index funds that prioritize socially-conscious companies. There are plenty of funds to choose from but a few good starting points are:
- Vanguard FTSE Social Index Fund (VFTAX)
- iShares MSCI USA ESG Select ETF (SUSA)
- iShares Global Clean Energy ETF (ICLN)
Additionally, you can check out companies that are exceptional social impact investments.
I hope that you’ve found this article on social impact investing to be valuable! Additionally, please remember that I’m not a financial advisor and am just offering my own research and commentary. As usual, please base all investment decisions on your own due diligence.