Politicians are increasingly interested in raising capital fromprivate markets to achieve public policy goals.
Broadly called social investing, the nascent industry can beknown as impact investing, social impact bonds, pay for success, or environmental,social and governance investing, also known as ESG investing. Panelists at a conferenceheld by Securities Industry and Financial Markets Association said the new industrycould experience exponential growth as millennials tend to place a priority on values.
"Millennials don't have this bifurcated worldview of I'mdoing philanthropy [here] and I'm pursing for-profit activities [there]. It's anew way of thinking," said Tracy Palandjian, CEO of Social Finance, a nonprofitunrelated to the Silicon Valley lender SoFi.
Rep. John Delaney, D-Md., and Rep. Tom MacArthur, R-N.J., co-foundeda congressional task force in June to advocate social investment. Both politiciansspoke at the conference, saying they will push for legislation that calls for additionalinvestment in the space. The politicians have pushed a bill, Social Impact Partnershipsto Pay for Results Act, that would set aside $100 million of funds for social investingprojects. The House of Representatives passed the bill by voice vote in June, anda version of the legislation has been referred to the Senate Committee on Finance.
MacArthur said in an interview that he hopes to see the taskforce spurring investments as soon as 2017, building a proof of concept for furtherexpansion of federal funding within 24 months. He said projects need to fail aswell as succeed for the space to grow.
"There have to be failures where people invest capital anddon't get any returns," MacArthur said. "Otherwise there's no credibility.People won't invest in a government-sponsored program if it's just a giveaway."
As of March, there have been 10 pay-for-success projects launchedin the U.S., according to the Nonprofit Finance Fund. Although the initiatives areoften called social impact bonds, the structure does not match that of a bond instrument.Generally, pay-for-success projects involve a government agency looking to solvea problem and a nonprofit with a proposed solution. A financial institution willraise money in the private market to fund the nonprofit's work, which is measuredby an agreed-upon metric typically evaluated by a third party. For example, oneproject sought to reduce prison recidivism by at least 10%. If the nonprofit hitsthe metric, the government agency pays up, returning the private money to investorswith a healthy return. If the nonprofit's work falls short of the metric, the governmentdoes not have to pay.
"Risk is actually completely privatized and the gains arebroadly shared with the public sector, with society," Palandjian said.
The first pay-for-success ventures have already ended in failure.Goldman Sachs Group Inc.paid $9.6 million for a program aimed at reducing recidivism among adolescent malesin New York City. After interim results showed no reduction in recidivism from thehistorical average, Goldman Sachs terminated the deal. However, the bank's losseswere substantially mitigated by a 75% guarantee from Bloomberg Philanthropies.
At the other end of the spectrum, a pay-for-success program inUtah aimed at providing preschool to low-income families had such great successwith student outcomes that there were questions about the validity of the evaluationmethod, according to a Nonprofit Finance Fund report.
Audrey Choi, CEO of the Morgan Stanley Institute for SustainableInvesting, said the sector does not need to rely on charity. She said research showsthat investment strategies built on sustainability ideas performed better than thegeneral market 64% of the time.
And Rep. Delaney said he sees a big future for the sector. Ifhe were not in government, he would look into launching a fund focused on the spacesince there was such great opportunity. And he echoed Choi's claim that social investingwas not about charity but about delivering outsized returns. He pointed to sustainablebuilding design and how potential employees will spurn companies that do not havea headquarters building certified as environmentally friendly.
Delaney said millennials will realize the limitations of thedivestment trend and turn to social investing. In recent years, college studentshave successfully pressed university endowments to divest from "negative"industries such as tobacco and oil.
"Most of the things that are negative make a lot of moneyand don't need capital. So divesting in them doesn't actually reduce them, it justmakes you feel better. Whereas investing in the things that are positive, they generallyneed capital."