At Samra Wealth Management we believe the allocation of portfolio assets goes beyond sector allocation and modern portfolio theory. The general practice amongst financial advisors, is for the advisor to assess their client’s risk profile and allocate assets amongst off-the-shelf investment vehicles. This flawed practice illustrates a strong disconnect between the financial advisor, the client’s tax advisor and the client’s enthusiasm towards reaching their financial goals. This month’s issue of The Samra Report highlights the widely unknown area of impact investing, contrasting the benefits against charitable donations, and our preference of allocation with regards to geographic location and sector. As we approach the end of the year, with Republican lawmakers seeking to eliminate the estate tax, this change of legislation would create a massive burden on charitable organizations. However, the goal of impact investing is not to take away from charitable organizations, but, to provide a platform to invest in a socially and environmentally conscious manner.
For the most part, financial advisors utilize a two-dimensional wealth management process: identifying their client’s financial position, establishing a financial end-goal, and investing assets with the intent of reaching this end-goal. Clients who are typically not deemed to be industry experts, are led to believe they need to generate an annualized return in order to reach their financial goals. However, a deeper look into the client’s full financial picture, will likely indicate other financial factors not taken into consideration. Factors such as the client’s annual charitable contributions, religious beliefs, and societal views. Meaningful conversations with our clients, help distinguish their true expectations. An investor may be willing to accept a lower annualized return, knowing their portfolio avoids investments in hydrocarbons, or invests in accordance with their religious beliefs. For client’s who make annual charitable donations, making a contribution towards a specific cause, or for the betterment of society may be a higher priority than a return on their investment portfolio. For example, an individual with an investment portfolio of $1 million making an annual charitable donation of $10,000 expects no return on their charitable contribution, however, has an expectation of return on their investment portfolio. An alternative for this client may be to invest in an impact investment vehicle, referring “to an investment made into companies, organizations and funds with the intention to generate a measurable, beneficial social or environmental impact alongside (or in lieu of) a financial return”. A more suitable strategy for this investor, would be to educate the client on impact investing, and weigh up the pros and cons of allocating a part of their investment portfolio towards impact investments. An impact investment portfolio yielding 1% less than the non-impact investment portfolio, would provide this investor with the same net benefit: a portfolio yielding an acceptable annualized return, while investing in areas generating a beneficial social or environmental impact. Furthermore, the investor has the capacity to increase investment allocations, or divert future charitable contributions towards the impact investment, potentially creating a scenario of compounded returns, or in this case compounded benefit towards social good.
A Morgan Stanley study estimates 71% of millennials would prefer investments with a positive impact on society and the world. However, a similar study conducted by Barclays found only 9% of millennial investors actually made social impact investments. “The supply of impact capital is expected to rise but, as yet, impact investment’s share in global financial markets is estimated to be at around only 0.2 percent of global wealth. If this share rises to 2 percent, it could mean over $2 trillion invested in impact-driven assets.” There is however, a mental dichotomy that exists: invest for social good, or invest for higher returns. However, a 2016 study released by the Global Impact Invest Network (GIIN) found impact investors reported substantial growth in the preceding three years. In fact; impact investment performance was at or above expectation for 98% of respondents. “Major financial institutions have taken notice. BlackRock, the world’s largest asset management firm, launched BlackRock Impact last year to focus on impact investing. Prudential has committed an additional $1 billion to socially responsible businesses by 2020. “For the most part, impact investing is predominantly found in illiquid asset classes such as private equity and private debt”. However, with millennials shifting their preferences from financial return, and placing a higher emphasis on social benefit, we expect more financial firms to follow this growing trend.
Impact investing adds a third dimension to the financial risk and return trade-off: Social and environmental impact is taken into consideration. The United Nations has identified Sustainable Development Goals (SDGs), providing a global audience of public/private sector, investors and start-ups, NGO’s and philanthropists, with 17 quantifiable objectives to achieve over the next 15 years, as shown in the diagram below.
“Private markets funds have established themselves as a preferred financial structure for impact investing, with fund managers adapting their existing lens to pursue and report impact goals. Such private markets structures, i.e. private equity funds, are well suited to impact investing through their ability to direct and verify impact on the privately held business or projects with the capital invested and the active management of the investment.” For these clients, investing directly via private placements and private equity firms, investments in impact companies are eligible for a charitable tax deduction. However, given the illiquid nature of these investments, they are not suitable, or available to all investors.
In our “Year Ahead” report, we highlighted sector and geographical areas we believe to outperform in 2017. It is important to note, the goal of impact investing is not to take away from charities, however, to provide a platform to invest in a socially and environmentally conscious manner. Impact investments are available globally, and geographic portfolio allocation can be attained to match a client’s existing exposure. With regards to sector allocation, the risk climate increases, as does the availability of investment vehicles, as most offerings are in the form of Private Placements and Private Debt. We remain bullish on “Year Ahead” recommendations with regards to sector allocations in: Financials, Technology, Healthcare, and Industrials. With regards to geographic allocation, we still favor the United States, with international exposure to developed Europe and the Nordic region, emerging and developed Asia (favoring India and China), and recommend against Africa and Latin America. Given the recent barrage against pharmaceuticals, we believe Israel will present a buying opportunity in the near future, as will Japan on a currency hedged basis, once tensions calm in the Korean Peninsula.
All information contained herein is derived from sources deemed to be reliable but cannot be guaranteed. All economic and performance data is historical and not indicative of future results. All views/opinions expressed herein are solely those of the author and do not reflect the views/opinions held by Advisory Services Network, LLC. The information and material contained herein is of a general nature and is intended for educational purposes only. This does not constitute a recommendation or a solicitation or offer of the purchase or sale of securities. Before investing or using any strategy, individuals should consult with their tax, legal, or financial advisor.