Impact investing and hedge funds

1. 

Defining meaningful impact measures. The lack of standardization for impact performance measures is a key challenge for impact investment managers. The wide range of impact measurement practices and metrics makes it difficult for investment managers to efficiently integrate impact measures into investment decision making. As transparency around impact measurement and reporting increases, a growing evidence base of impact disclosure will better enable the market to evaluate impact investment as an investment strategy.

2. 

Solving for intentionality, additionality, and differentiation. Hedge fund managers may have a few more hoops to jump through, conceptually, than other types of investment managers, before actively engaging in impact investing. While a full discussion of these is beyond the scope of this report, three elements are notable:

• Intentionality. This practice means that a portfolio manager’s intention toward the positive, whether social or environmental, sets impact investing apart from other strategies that may measure performance only after the fact.
• Additionality. Another metric for success is that an investment needs to create measurable social impact. But for this investment, as it were, there may not be any additional value-add or impact beyond what previously existed.
• Differentiation. As the market matures, participating fund managers will want to differentiate their approaches around decision making and showcasing the value of the algorithms and trading/investing philosophies that support impact investment.

3. 

Achieving comparable performance. Investors will want to measure the performance of impact investing versus established benchmarks, and weigh it against the opportunity cost of other investments not selected. In one solution, Cambridge Associates (CA) and the GIIN jointly launched an impact investing benchmark in 2015, which assesses the performance of 51 private investments. Initial results have been encouraging. Across all vintage years, funds in the Impact Investing Benchmark posted a 6.3 percent internal rate of return, versus the 8.6 percent returns of funds in the Comparative Universe. These early findings illustrate that achieving comparable performance—or at least attaining returns which may be close enough to satisfy regulatory guidelines for institutional investing by foundations—may be a reasonable anticipation for impact investments. Hedge funds were not represented in the benchmark, yet managers considering entry into the market may find these results promising.

4. 

Ensuring fiduciary compliance. Recent ERISA (Employee Retirement Income Security Act) guidance may help pave the way for greater adoption of social strategies, including impact investments. In essence, a 2015 Department of Labor bulletin clarified that plan fiduciaries may invest in socially oriented funds so long as the investment is “economically equivalent—with respect to return and risk to beneficiaries in the appropriate time horizon—to investments without such collateral benefits.” As the market matures it will be vital for fund managers to ensure that their investment strategies and disclosures continue to keep pace with the evolution in regulatory oversight.

5. 

Growing demand in a challenging marketplace. The demand for impact investments may not yet support launching a dedicated impact strategy. Complicating this further, the hedge fund industry has recently faced market challenges that may negatively influence current traction for impact investing approaches. As social awareness is generally trending in the marketplace, and with millennials showing high interest in impact investments, and their influence rising as assets grow, it may be merely a matter of time before demand increases. If this happens concurrently with managers achieving comparable financial returns using impact styles, a new and welcome type of demand challenge may emerge: finding the opportunity to deploy capital effectively.