Today, a growing number of investors and investment managers consider the impact of their investments on people, environment and society. This is often not instead of, but on top of their key focus on the financial return of investments. These ‘other returns’ are often reflected in their investment strategies and integrated into their investment process, where terms such as ESG, SRI, ethical / advocacy investing, impact investing and philanthropy come along. However, when talking to clients we hear that many use these terms interchangeably and they mean different things to different people. Furthermore, clients often combine terms, e.g. SRI and ESG, which could make matters even more complex. This article aims to provide some clarification on the differences between traditional investments, ESG, SRI, ethical / advocacy investments, impact investments and philanthropy.
How to define the differences
The differences can be best explained by the emphasis that is placed on the financial outcome (value driven) and the social outcome (values driven) of the investment made. It is very important to state that this is all about the emphasis placed on the financial outcome or social outcome as in reality they can often be combined and do not mutually exclude each other.
On the one hand we have traditional (basic level) investments, which focus solely on the financial outcome. They are irrelevant to the impact on people, environment and society and risks are mainly managed from a financial standpoint.
Environmental, social and governance investments
The next level of focus is ESG which takes a broader set of due diligence questions on environmental, social and governance factors into account and risks are managed against those factors. This means that the risk management for ESG goes beyond managing financial risk only. ESG in that sense could have a positive impact on people, environment and society but the goal is to optimise return with the money invested.
Socially responsible investments
A socially responsible investment (SRI) adds another level of focus and aims to balance financial outcome and social outcome by excluding certain segments such as tobacco, gambling, alcohol, firearms, etc. This type of investment is also called ethical / advocacy investing and follows the investors beliefs of good ethical conduct. Both ESG and SRI still mainly focus on financial outcome but do consider ethical and ESG risks that could influence the social outcome or the reputation of the investor.
Impact investing vs. philanthropy
Both impact investing and philanthropy are on the other side of the spectrum where the financial outcome is secondary and should not be seen as another level. The primary focus is on the social/ environmental outcome of the investments. These investors are also willing to take more risk to achieve these goals and their risk management often takes both ESG and SRI into consideration. The main difference between impact investing and philanthropy is that impact investment still expects a certain financial return where pure philanthropy does not take the financial outcome into consideration. Therefore, philanthropy are often donations, grants, etc.
Why is it important to know the difference?
Knowing these differences helps to align the client’s investment strategy to its desired impact on people, environment and society. However, knowing the differences and incorporating them into the investment strategy won’t be enough to realise the desired impact. In order to do so, clients must actively measure and manage their investments towards their desired impact. Keep an eye out for our next 3-minute masterclasses because we will shed a light on how clients can measure and manage their investments towards the desired impact.
Want to know more on how we help our clients with their impact investments? We’re always up for a chat over a good cup of coffee! In the meantime, don’t hesitate to look at all of our other offerings.