A Powerful Combination of Tailwinds Powering Impact Opportunities

This article was originally published on May 14, 2024 in New Private Markets.

The mid-year mark is always a good opportunity for reflection. When I look back at the past year, there are three key takeaways that top my list of thoughts:

• 2023 was certainly challenging year for the industry. Impact investors were not immune to this. But this is changing, and we’re seeing activity pick up again, in fundraising and deal making.
  
• Climate has remained the most active theme of the market, but we see opportunity in other areas – and education and workforce development in particular.
• Private wealth is still critical in mobilising capital at scale towards strategies that target both investment returns and positive social and environmental outcomes.

The rise in inflation and consequent interest rate movements have led to a re-adjustment across the industry. With lower liquidity and a decreasing number of exits – and therefore distributed capital – it was all but inevitable that we would see a slowdown in fundraising. We’ve seen valuations adjust across the board, and better performance from those managers that remained disciplined on entry pricing and are now looking at an improved opportunity set. And with that, and the markets adjusting to the new environment, we’ve started to see activity pick up again.

Despite the broader slowdown, we’ve seen continued growth in climate solutions where the combination of an increase in public awareness, corporate action and government policy have resulted in a growth in both the supply of investment opportunities and the demand for solutions. While the reset in valuations has obviously also affected climate investments – particularly in the earlier stages of the market – this has translated in a greater degree of resilience. The latest numbers released by Sightline point to a steady rise in the number of fund announcements and fresh capital going into the space, reaching $82bn in 2023 into 100 funds¹ a significant increase relative to just a couple of years ago. The capital gap continues to be large, but we’re moving in the right direction. We’re also seeing a maturing landscape, with investment flows into climate no longer dominated by early-stage capital, which becomes less feasible as a funding source as companies scale. Perhaps most importantly, we’re seeing a great influx of talent into climate investing, which is unsurprising when you think of climate change as the defining challenge and opportunity of our lifetime.

Looking beyond climate, we also see compelling opportunities in education and workforce development, from both a return and social impact perspective. Education represents one of the three largest sectors globally in terms of consumer spending and one that is experiencing a great deal of change. We see growing demand for educational and vocational training opportunities beyond those provided by traditional educational institutions and beyond traditional classroom settings. We're seeing a pickup in on-the-job training which is leading to an increase in apprenticeships and innovative risk-sharing models for financing education, and other innovations are leading to improvements in access, quality and affordability – all key to socio-economic mobility. After a period of stasis – which resulted from post-pandemic human capital challenges but also an adjustment to a new reality with generative AI – we think that this is one of the most attractive and fertile spaces.

Overall, across sectors, we continue to believe that private markets are where the opportunity set remains most compelling. That is because that’s where most of the innovation is, but also because of size – public companies are the tip of the market iceberg, with private markets representing 88% of companies with revenues over 100 million, US dollars in the US, a number set to grow as private companies are increasingly staying private for longer.²

However, as the opportunity set grows, so does the dispersion of returns, and that’s when investment selection becomes more important. They way we look at impact is that our impact strategies need to generate returns that are commensurate with those achieved through conventional strategies. The reason for this is simple: mobilisation of capital at scale into impact strategies isn’t a realistic option unless the track record that it generates is just as compelling as other strategies, making the capital allocation choice simple. The implication for us is that impact has a higher bar for investment, given the multiple layers of due diligence required.

Against this background as we look ahead, we believe that we can expect to see an increasing mobilisation of capital into impact strategies and that private wealth will play a key role in this allocation. In addition to the well-known and unprecedented intergenerational wealth transfer that we’re on the cusp of, we’re seeing an evolution in the way that private wealth is allocated. While traditionally we saw a separation of investment activities and charitable giving, today we see a confluence of strategies, where our clients are now looking for investment strategies that can potentially deliver financial returns alongside positive social and environmental outcomes.

So today we see a market that is starting to show signs of a powerful combination of talent, opportunity, capital and purpose. When we put it all together, I think it is hard to not remain optimistic about where we’re headed.

¹https://www.ctvc.co/dry-powder-for-climate-2023/?secureweb=OUTLOOK

²https://www.blackrock.com/us/individual/literature/investor-guide/bpif-investor-guide.pdf