Impact Investment and Economic Orthodoxy: Changing Times

Red Ribbon Asset Management has a reputation for delivering strong asset growth for clients by investing in growth markets using impact investment strategies, but exactly what does an Impact Investment strategy involve and why does it make such a significant difference to portfolio management strategies?

Economists used to call them “externalities”: these were the events and activities which arose from individual economic decisions but which were unintended. By way of homely example, not calculated to arise either from an individual decision to buy a chocolate bar or a manufacturer’s investment in a new chocolate factory, but because in each case the events were external to the person making the decision; and the most notable economic examples of externalities were environmental pollution and global warming. No rational business intended to pollute the environment or add to global warming, so the theory went, pollution and global warming were just things that happened because of other things that businesses did. They were externalities.

And orthodox economic theory held that when anything was an externality properly so called, it was hopeless to expect a free market to do anything about it; because participants in a free market would be guided by those things which they intended to achieve; not those that they didn’t.

How old and tired that all sounds...

How jaded and worn out these orthodox economic theories seem to be when setting against the sheer scale of the global social and environmental challenges we are currently facing; not only do they seem utterly inadequate to provide the answers, they don’t even have the ambition to recognise the problem. Which is no doubt why social and economic factors are now fast converging to create a new economic paradigm.

It’s called Mainstream Impact Investment and it is fundamentally animated by a conviction that any business, at least a well-run business, simply cannot afford to be this indifferent to the unintended consequences of its economic activity, any more than a parent would be indifferent to the consequences of leaving a loaded revolver in a nursery. Just because the eventual outcome of any decision might not have been intended, does not mean that a properly regulated business will simply close its eyes to the possibility that it might happen at all. Quite the contrary, it will be a better run, more sustainable and resilient business if it makes itself aware of those consequences and does something about them.

A well-structured business, a business adhering to the Mainstream Impact Investment model will be able to recognize the negative impacts of its production process or of the manner in which it delivers its services; and it will be able to calibrate and weigh the effect of those negative impacts in conjunction with the internal and external stakeholders in the business itself (so it will have to know who those stakeholders are too: from its own employees inside the business, spreading outwards to the those holding a stake in the business in the wider society and ultimately in the environment at large as well).  And once a business can do those two things, recognising where it is having a negative impact and properly assessing the weight to be attached to it, it will necessarily become aware also of the very fullest range of the economic and wider social consequences of its activities.

On that business paradigm, there will be no such thing as an externality because everything will either be intended or at least understood by the business in question.

And the business will then be in a position to take steps so as to mitigate the negative impacts of its economic activity; reducing its negative impact both on the wider society and on the environment at large; and the difference between that and the old orthodoxy of externalities is as stark as the difference between driving with your eyes shut and driving with a sat nav: a business that adopts a Mainstream Impact Investment strategy will be better structured and more sustainable for the long term because it will have a better idea of what the long term will look like.

Management on that model will also be better structured and more resilient over the medium to long term; in which case it is more likely to be resilient and robust in the short term too, which has to make good business sense.

So it’s not just about marginal environmental projects. It’s about the sound business sense in the mainstream economy; which is why the key effects of Impact Investment strategies are likely to be seen in mainstream businesses, as is already apparent, indeed, from leading segments of the global economy which are configuring to the new paradigm. The top ten impact investment businesses worldwide have a total market worth in excess of $100 Billion; Tesla, for example, has a market capitalization that is now bigger General Motors.

The old economic paradigm is changing, and it’s changing fast.