Investors can aim not only to make money, but also to benefit society while doing so. But few of these impact investors follow up on whether their strategy is having a positive impact, we found in a published study Journal of Business Ethics.
Impact investments aim to generate financial returns in addition to creating positive social or environmental outcomes. But having the intention to do good by choosing the right assets does not guarantee that you will. We call this uncertainty “impact risk”.
After 124 interviews with impact investors and an experiment with 435 participants, we found that instead of directly assessing impact risk, many impact investors assume that they will be able to positively impact the world when evaluating their investment choices.
In other words, they think that certain businesses, such as solar energy companies or microfinance initiatives, are inherently good for society. This “win-win” mindset leads investors to focus primarily on financial performance rather than assessing whether their investment has social or environmental impact. This often means that investors cannot determine whether particular investments perform better than others on social dimensions.
We’ve found that this mindset discourages investors from looking for information that might point to deficiencies in an investment’s social performance.
Why is it important?
According to the Global Impact Investing Network, impact investing, a rapidly growing financial sector, is expected to exceed $1.5 trillion globally by the end of 2024. The industry has attracted a range of investors, including wealthy individuals, banks, development finance institutions, corporations, foundations, pension funds and religious institutions.
About 75% of young individual investors, including Millennials and Gen Z, prefer to align investments with their social values.
Most of the $84 trillion in wealth expected to be inherited by older adults by 2045 will flow to millennials and other younger Americans in what financial institutions such as Goldman Sachs, Morgan Stanley and Vanguard have dubbed the “great wealth transfer.” working harder to appeal to impact investors. They now offer a range of investment options that promise both social impact and financial performance.
However, we have seen that good intentions alone cannot produce consistent social impact. Without robust risk assessments and ongoing evaluations of whether investments are having the intended results, impact investing cannot achieve its goals.
What is not yet known
Many questions remain about how investors can effectively assess impact risks without creating potentially burdensome reporting requirements for themselves or their clients. Some of our related research found that financial managers are concerned about this potential burden.
But there may be new rules anyway. For example, a proposed rule by the Securities and Exchange Commission (SEC) would require public corporations in the United States to disclose risks related to climate change. However, due to pending litigation, implementation of the rule is being delayed – perhaps indefinitely.
What’s next
The next phase of our research builds on these findings by examining how investors look for and respond to evidence of underperformance. With additional colleagues at the University of Virginia, we are currently investigating whether moral clarity—how confident people feel in making ethical decisions—affects investor behavior.
By continuing to explore the relationship between impact and financial performance, we aim to contribute to the wider conversation in both academia and practice about how to ensure that investments truly benefit people and the planet.
Lauren Kaufmann is an associate professor of business administration at the University of Virginia.
Helet Botha is an associate professor of business policy and strategy at the University of Michigan-Dearborn.
The Research Brief is a brief information about an interesting academic work.
This article has been republished Conversation Under Creative Commons license. Read the original article.