Almost half a century ago, Milton Friedman stated that “the one and only one responsibility of business is to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game”. Fortunately, a lot has happened since then and now that way of thinking is outdated.
Using the power of investment to improve social conditions and the health of ecosystems is not only the right way to do things but also the only way to close the SDG financing gap estimated at US$ 2.5 trillion annually, which cannot be covered only by philanthropy. Impact investing could drive a significant amount of capital towards sustainable solutions while opening US$12 trillion of market opportunities by 2030 in business savings and revenue.
It is true that investment managers and intermediaries still consider their principal duty to maximize returns for investors. However, there is enough evidence supporting the fact that impact investors can at least match the returns of ordinary investors, partly because they are less exposed to environmental accidents and reputational risks. Georg Kell, Founding Director of the UN Global Compact, explained: “the rise of ESG investing can also be understood as a proxy for how markets and societies are changing and how concepts of valuation are adapting to these changes”.
This trend is particularly clear in emerging markets, where returns from companies that score well on ESG factors are “strikingly higher”, according to a note from the Deputy Director for Global Capital Markets of the Institute of International Finance. The data revealed that these companies outperformed their peers by 103% during the past decade.
Investing in green bonds does not imply obtaining sub-par returns. If so, the current popularity of green bonds would not be reasonable. A recent study of all the corporate green bonds issued by public companies globally from January 1, 2013 to December 31, 2017 showed that they trigger positive market response, improve financial and environmental performance and attract long term investors.
Neither is it rational to think of green bonds merely as instruments of green washing or claiming that they have minimal positive impacts in the real world. Most of the proceeds from the global green bond issuance in 2018 were directed to important sectors like energy, transportation, water, waste and infrastructure. For all of these reasons, the green bond market carries strong recognition by the international investment community and continues to grow: global green bond issuance in 2018 reached US$167.3bn and surpassed 2017 volume by 3%.
The growing demand for green bonds can be easily explained by the fact they allow investors to direct funding towards environmental goals with comparable risk-return profile to traditional bonds. Other potential benefits of green bonds include enhanced reputation, direct investment in the greening of brown sectors, increased transparency on the use of proceeds and adoption of longer time horizons.
Some leading corporations have understood the value of green bonds as a tool to increase capital while signaling a long-term commitment to sustainability. In 2017, Apple offered a US$1 billion green bond whose sales will be used to finance renewable energy and to procure safer materials for its products. A few years earlier, Unilever issued a green bond to support sustainability investments under the company´s Sustainable Living Plan. “Proceeds were dedicated for projects including facility investments in South Africa, China, Turkey and Kansas that were designed to reduce greenhouse gas emissions, water consumption and waste generation by 50% for new factories and 30% for retrofits”.
There are some other trending financial products in the impact investing field that are worth mentioning in order to refute the idea that trying to improve social conditions or the health of ecosystem using the power of investment is the wrong way to do things. Today there are at least US$11bn in assets under management across 120 socially responsible funds globally and that number is expected to reach up to more than US$400bn over the next ten years.
Socially responsible funds or ESG funds can be defined as portfolios of equities and/or bonds for which ESG factors have been integrated into the investment process. According to Robeco, an international asset management firm: “an ESG fund should contain only those securities with a high sustainability score and would exclude companies with, for example, poor records on pollution, labor relations or management practices. It would also exclude the sovereign bonds of governments with similar poor records”.
One of the best performing ESG funds is Calvert Impact Capital, a firm with 23 years of experience in the impact investing industry. They raise capital from investors and lend that money to borrowers creating financial returns and sustainable social and/or environmental outcomes. For example, in 2017 they extended a line of credit to a fund (Forest Carbon Partners) that finances and develops forest carbon offset projects in California. If these kinds of investments are profitable, why should not we opt for them?
Therefore, the question is not about the value of financial instruments like green bonds or ESG funds. The question is how to transform green bonds and ESG funds into mainstream products.