JP Morgan has heralded impact investment as a distinct asset class – but is there a fly in the ointment?

Published 21 April 2011, www.alliancemagazine.org, orginal article here.

J P Morgan’s seminal report Impact Investments: An emerging asset class, published in November 2010, is the watershed proclamation that impact investment is going mainstream – so wherein lies the rub?

J P Morgan has drawn three primary conclusions from its research:

  • Impact investment is being accepted by investors as an emerging and separate asset class.
  • The potential exists to attract enormous sums of investment capital into the impact investment market ‘approaching a trillion dollars’ and this ‘is just part of the investing potential’.
  • Evidence from their survey into the expectations of impact investors reveals that commercial or close to commercial returns are anticipated.

J P Morgan will no doubt capitalize on this first-mover advantage. This will be good for increasing its market share within a beleaguered sector, good for its shareholders, and good also for increasing the socially beneficial outcomes of big finance. But does the hype mean that social impact will not only receive more airtime but be maximized? Unlikely, unless there is more substantive reform of finance.

Private sector organizations, and particularly the juggernauts of the financial sector, typically crowd out competition in order to secure market share in a winner-takes-all model. Innovation and efficiencies may be generated along the way, but at scale these organizations are typically hardwired to a predatory DNA. The prioritization of corporate self-interest will not reduce inequality and cannot deliver socioeconomic cohesion.

If mainstream impact investment products are to work for society, and not just for investors, then it needs to be within a different paradigm. Antony Bugg-Levine, managing director at the Rockefeller Foundation, tells us that ‘defining impact investing as an asset class encourages the emergence of a community organized around impact investing’.  What attributes does this investment community require?

  • Successful investment models will be flexible and adaptable, able to better respond to a broader economics paradigm of increased uncertainty and unpredictability; they will be more holistic as complexity becomes accepted as par for the course.
  • Aspects of the social sector will take on attributes of the financial sector, and vice versa, as they both embrace principles that have seemed hitherto counter-intuitive. Social sector organizations seeking impact investment will be more businesslike in their behaviours and impact investors will be more accommodating of the needs of social sector organizations.
  • The creation of long-term socioeconomic value will be prioritized over short-term financial gains, requiring a different evaluation of risk.
  • Real value will be added when there is a consensus view that something has become worth more to people, and not just because the asset price has gone up.
  • To succeed, investors will need to be more engaged and be prepared to invest more time and skills into making deals work. They will need to be better informed and more in tune with investee requirements.

Is this what J P Morgan is doing? The report suggests that they have approached the issue from a traditional mono-line perspective, adopting a ‘methodology for measuring the invested capital requirement and potential profit opportunity in selected businesses and sub-sectors within housing, water, health, education and financial services targeting BOP [base of the pyramid] populations’. In assessing the demand within affordable housing, for example, the report excludes people earning less than $1 a day and says that ‘We must acknowledge that there is a portion of the population at the lowest income level that remain reliant largely on aid’. The greatest social impact would, however, be achieved if this area of need is focused on, not excluded.

To maximize the social impact of investment, and more pertinently to prioritize it, would require system change across the world of big finance. This is unrealistic for a private sector conglomerate and we should be supportive of what J P Morgan has achieved, given its constraints. J P Morgan acknowledges that there is a requirement for building capacity through ‘self-sustaining market-based systems’ in order for people to escape poverty and deprivation, even at the very base of the economic pyramid. In future they would like to address the lowest income brackets, but for now they will focus on proven business models. J P Morgan has chosen to go in a laudable direction, but if they get the fundamentals wrong, they risk injecting too much capital too quickly into a market that is not yet ready for this form of investment.

The social sector must seize the moment and be more proactive than it has been to date in shaping this new asset class. We have a duty to help build the self-sustaining market-based systems required to make impact investment serve the interests of society as well as it serves the interests of capital.

Karl H Richter is co-founder of the JenLi Foundation. Email KHRichter@jenli.org

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This article is based on my original blog post here
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