Insights

Impact investing's data debacle

Investors have the financial clout, responsibility and impetus to address social and environmental crises such as climate change. But how are they doing it and what hurdles still lie in the way?

Last week, 11,000 scientists from across the world declared a global climate emergency. 

It was an uncomfortable reminder of the symbiotic relationship between climate and society. Global warming, they warned, will cause “untold suffering” unless policymakers and businesses immediately implement six major social changes, including shifting economic goals away from GDP growth.

It’s increasingly difficult to escape the idea that investors have a role to play in shaping the course of our most critical global crises. Realistically, the world is unlikely to reach the Paris Agreement targets or bridge the $5-7 trillion funding gap needed to meet the UN Sustainable Development Goals without a significant shift in capital allocation. 

The death of traditional investing

Investing with a conscience isn’t simply an exercise in feel-good PR. Environmental—and by extension, social—problems are financial problems, too, as Mark Carney argued in his landmark 2015 speech.

Insurers are already feeling the heat in California, where they stand to lose millions from wildfires. Renewable energy threatens to render fossil fuel companies and their debts obsolete. Banks, meanwhile, face substantial losses as rising sea levels threaten to sink mortgages.

While the climate emergency is the current crisis du jour, it’s not exclusively an environmental problem. The social ramifications of global warming—as communities are displaced, resource shortages escalate and political discontent manifests—pose another set of threats to the financial system. 

Picking the right side of history

The question of whether investors should engage on social and environmental issues has, for all intents and purposes, already been settled. The real question is: to what extent should they engage?

Is it a case of mitigating risk or solving real-world problems? Investing to stay within the nine planetary boundaries or investing in a more sustainable world? 

The debate has recently reached fever pitch among central bankers, who find themselves torn between the respective philosophies of Jens Weidmann and Christine Lagarde; 2° and 2%; quantitative easing and quantitative greening.

Among investors, it takes shape in the play-off between ESG and impact investing.

ESG is about risk mitigation, the line goes: ESG integration enhances traditional financial analysis by identifying risks and opportunities not captured by technical valuations. Impact investing works within a different framework: one where financial returns are considered alongside social and environmental returns on investment. 

Although both styles of investing are integral, only impact can serve a role in actively combatting—rather than just avoiding—global social and environmental risk. There’s just one problem. 

The evolution of impact...

When it was coined just a decade ago, ‘impact investing’ referred to early-stage investments in unlisted social enterprises. Ten years later, its scope has exploded. 

Gone is the stereotype of foreign direct investment into healthcare intervention in Mozambique. Today’s impact investors represent over $502 billion across every market and asset class, with the type of investments made and capital deployed growing rapidly. 

Impact investing, officially defined as “investments made with the intention to generate positive, measurable social and environmental impact alongside a financial return,” makes sense at a time when the world is paying careful attention to issues such as climate change and social inequality.

Unfortunately, however, ‘measurability’ hasn’t been able to keep up with ‘intentionality’.

... meets the hurdle of data

As the scope of impact has widened beyond idiosyncratic investment opportunities in private markets, the data has become more complex and difficult to measure. While it’s relatively straightforward to quantify impact when it’s observable (e.g. health in Mozambique), it becomes more complicated when you’re analysing datasets that contain thousands of companies or issuers.

As with financial returns, non-financial returns can increase or decrease as a result of myriad external factors, be it the stage of the economic cycle, industry disruption or new regulation. But unlike financial returns, which can be measured by a single metric—currency—non-financial returns can manifest in almost countless ways. 

 Although the system-disrupting nature of impact investing is likely to attract early movers, impact won’t truly become ubiquitous until it’s supported by objective, accessible and reliable data that meets a clearly defined set of standards. The challenge is finding consensus. 

Technology will solve the data debacle

At Util, we harness big data and artificial intelligence to measure the social and environmental performance of every listed company. Using machine learning to draw from the latest academic insights, we can quantify the positive and negative effects of 7,000 products and services against the 17 UN Sustainable Development Goals. Aggregated at scale, this data provides a holistic insight into the total impact of any given company or portfolio. 

Ours is just one answer to the data debacle; there are many other examples of technological innovation in this space. But if the investment industry is to evolve—and, as the scientific community has made clear, it had to—investors must rally around a single solution.