• Appetite for social investment in Europe is at an all-time high.
• Despite this demand, the market remains dominated by similar products which focus on negative screening.
• We believe the time has come for a new approach which delivers measurable social alpha as well as a financial return: doing well by doing good.

In recent years, European investor engagement with Responsible Investment (RI) has gathered momentum. Some of this growth could be a result of the open and proactive attitude to RI among European policymakers and institutions. But impact investment has also soared in popularity as European investors have begun to consider the effects of their invested capital more deeply.

According to a 2016 European study of RI by Eurosif,¹ impact investing strategies' assets under management grew by a remarkable 385%, from €20.27 billion to €98.33 billion, between 2013 and 2015.² Although institutional investors still make up the dominant share of the RI market, the report also found that new growth was emerging in the retail sector, which had undergone a dramatic shift from 3.4% to 22% of investment.³

However, the final and perhaps most notable statistic shows that exclusion-based strategies remain the dominant approach. These represent €10 trillion, covering 48% of the total of European professionally-managed assets (see Figure 1).

Figure 1: Overview of RI strategies in Europe

Source: Eurosif European SRI Study 2016 - p.12

Exclusion-based strategies are a blunt tool for achieving social goals. More commonly known as negative screening, this process involves taking a given universe of bonds or equities (for example, a benchmark equity index), and then removing companies which fail to meet specified ESG criteria. These usually include causing social or environmental harm through activities such as weapons, alcohol, tobacco or oil production.

While this approach can avoid investment in the worst offenders, it runs the risk of simply leaving investors with the 'least worst' companies in their portfolio. With European demand for RI strategies at an all-time high, a rethink in approach is overdue to meet the needs of this emerging generation of socially aware investors.

AN INNOVATIVE APPROACH

Columbia Threadneedle Investments' recently launched European Social Bond Strategy - run in partnership with INCO - is underpinned by a markedly different approach to social investment. It is based on the principle of positive inclusion, not negative exclusion. In other words, its goal is to invest for social impact while delivering a financial return.

Importantly, the strategy invests in bonds rather than equities. This requires a direct line of sight to the investment, as it only invests in bonds where the use of proceeds is clearly identified towards purposes which meet the social criteria.

The strategy is carefully managed with a mix of maturities to offer daily liquidity. Frequently, impact investment and other social impact vehicles must tie up money for long periods. Furthermore, the risk profile can be challenging to understand. The European Social Bond Strategy, by contrast, offers a corporate bond strategy type risk and aims for a corporate bond return, making it accessible and understandable to a wide range of investors.

BRIDGING A FUNDING GAP

Stable, long-term financing for organisations operating in areas of social need is critical. But following the global financial crisis, many socially-focused sectors are finding traditional sources of funding less attractive and less plentiful. Some are suffering from years of chronic underinvestment. Economies need well-directed investment so that they and the individuals within them can thrive.

The urgency of this need prompted European Commission President Jean-Claude Juncker to launch the €300bn InvestEU project in 2014 to jump-start funding in infrastructure, but there are limits to what one institution can achieve. Supplying reliable, affordable capital to organisations in target sectors can lead to tangible social benefits and boost long-term economic growth.

The European Social Bond Strategy aims to help bridge this gap by matching investor capital to projects with a defined positive social outcome for individuals across affordable housing, health and welfare, education and training, employment, community, access to services and economic regeneration and development. This is about real world outcomes, not just the internal workings of a company; supporting people and communities and creating prosperity.

Some European governments, such as Poland and France, issue debt whose proceeds are specifically directed towards identifiable projects, and this can also form part of the strategy's holdings - for example, the French administration recently issued a €7bn green energy bond. Without this it is hard to invest in government issues because there is no certainty as to where the money is used and so could, for example, end up funding nuclear weapons.

IN-DEPTH METHODOLOGY

While the strategy is supported by a well-resourced team to find suitable investments and projects across the Continent, it does not simply rely on self-certification for the positive social impact of investments chosen. Columbia Threadneedle Investments has partnered with INCO, a leading global consortium for a new economy, inclusive and sustainable, to act as an independent adviser on the strategy.

Given the size of the potential European investment universe, a new and rigorous assessment process has been drawn up to help score the social outcome. This is not a box-ticking exercise, but an evidence-based approach that helps to measure the precise intensity of social outcomes to distinguish where real social benefit will occur.

Social impact can be tough to measure, which is why a thorough, evidence-based approach which avoids assumptions is vital, as is the partnership with INCO to support decisions with meticulous research. Each investment decision must drill down to the same question: what will the impact for individuals be?

Our goal is to achieve social alpha without sacrificing the market rate of return. We are proud to have accomplished this with our UK Social Bond Strategy, which importantly is accessible to all types of investor, with daily liquidity and a low minimum investment.

RI investing is becoming mainstream. But investors need mainstream ways to access positive social outcome investing which meets their needs and risk profiles without requiring the sacrifice of financial return. Our European Social Bond Strategy signals a new approach which will help to meet these goals for the next generation social investor.

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¹ http://www.eurosif.org/wp-content/uploads/2016/11/SRI-study-2016-LR-.pdf, p.7
² Op cit, p.38
³ Op cit, p.7