Active Management for Alpha and Impact

May 6th, 2021 | Kelly Gauthier

Dollars are flooding into investments aligned with the SDGs.[1] More and more investors have come to recognize that aligning their capital with companies that benefit people and the planet is not only “good”, but the way to drive long-term outperformance. And for companies, it just makes good business sense to be well positioned strategically and operationally for a future where social and climate concerns are becoming increasingly important for all stakeholders.

With this good and growing number of impactful investments available, a new problem has arisen for the investor: how to compare possible investments. Not all impact is created equal. For example, not all ETFs or funds have the same mandate, investment thesis or impact. And risk is increasingly complex for investors to unpack, due to things like changing environmental regulations and government intervention in financial markets.

With this absence of consistent disclosure regulations and robust data sets required to assess impact, what happens?[2] Investors must try to figure out impact themselves in order to spot the best investments. Consistency, greater standardization and good measurement tools are needed. Luckily, they are coming.

Using impact management for portfolio management

In an investment context, impact measurement and management is designed to:

  • Evaluate how companies are contributing to their multi-stakeholder universe (comprised of employees, communities, society at large, the environment and shareholder value)
  • Be a mechanism to engage companies and hold them accountable
  • Identify companies that have underappreciated future potential impact
  • Evaluate poor impact organizations that may be subject to greater risk associated with harming society or the environment (such as regulatory risk, shifting customer demands for greater accountability)
  • Evaluate if the impact generated by a portfolio is aligned to investor values

To be valuable at driving great impact and better financial returns, measurement and management needs to be used for portfolio management. Unfortunately, financial decision-making and impact management are usually siloed in many organizations and often have misaligned agendas and as a result, impact, money or both are left on the table.

Emerging global best practice is to simultaneously integrate impact management with financial analysis.[3] Doing so allows investors to pursue the “efficient impact frontier”. While a portfolio that lies on the traditional “efficient frontier” offers the greatest possible return for a given level of risk and for a given set of investment opportunities, a portfolio of investments on the “efficient impact frontier,” which includes the additional dimension of impact, offers the highest level of overall impact, relative to the cumulative financial return of those investments. The three dimensions are not mutually exclusive; for example, businesses with less impact may offer higher risk long term. Investing across all SDGs rather than a few niche areas greatly enhances a portfolio’s ability to diversify risk through the inclusion of different regions, sectors and asset classes.

Hugely beneficial

Relationships between impact and financial risk and return can be analysed empirically and managed proactively by investors. Impact-financial integration enable investors to:

  • Distinguish which types of impact, in which contexts, truly drive excess financial returns and avoid excessive risk, and which may require a financial concession
  • Continuously improve their impact performance while meeting their financial goals
  • Set more comprehensive goals for their portfolio
  • Communicate about impact and financial goals and performance more clearly

Impact-financial integration is relevant for asset managers and asset owners, across the continuum of financial returns.

Towards the efficient impact frontier

When you integrate impact with risk and return you end up with the same clarity and power as people have come to expect on the financial side.

These two scatterplot charts shows portfolio investments plotted by both impact and financial expectations, with expected impact on the x axis, and an expected risk-adjusted financial return on the y axis.[4] These charts help investors pursue the efficient impact frontier by addressing the question, What combination of the transactions on this chart – or others likely to arise in the future – will help me achieve the best portfolio for my financial and impact goals?

The impact rating is a weighted sum of indicators that collectively cover multiple dimensions of impact, such as the number of people reached, how underserved those people are, and how much each individual is affected. Impact ratings can also cover environmental impacts such as reduced carbon emissions or avoided deforestation.

The financial valuation metric is an estimate of which prospective investments offer more or less expected risk-adjusted financial return. It is designed to tell the investor to what extent they should prioritize a transaction on the basis of its expected financial performance.

Integrated charts can help decision making around potential investments but also can be used over time to assess longstanding investments. With them, an investor can see whether there were individual investments they may have overpaid for in terms of the impact achieved; or, conversely, whether they achieved an unusually high degree of impact relative to the financial risk and return – the much-sought ‘impact alpha.’


[1] Several sources provide more information on this, including Sustainable Finance: Ten Trends for 2021, the RIA’s 2020 Canadian Responsible Investment Trends Report and the articles “Seven ESG Trends to Watch in 2021” and “Investors continue to align with SDGs.”

[2] Although they may be coming; see “The EU is moving ahead with mandatory ESG disclosure for asset managers and Financial Advisers – what does it mean for Canadian firms?”

[3] Root Capital wrote about this idea in 2017; see Toward the Efficient Impact Frontier. The idea of the efficient impact frontier has been taken up by the Impact Management Project, which, with partners, has been helping investors globally to reach the efficient impact frontier with its program Impact Frontiers.

[4] For further elaboration, see Impact-Financial Integration: A Handbook for Investors and “How Investors Can Integrate Social Impact With Financial Performance to Improve Both”.

RIA Disclaimer
The views and opinions expressed in this article are solely those of the authors and do not necessarily reflect the view or position of the Responsible Investment Association (RIA). The RIA does not endorse, recommend, or guarantee any of the claims made by the authors. This article is intended as general information and not investment advice. We recommend consulting with a qualified advisor or investment professional prior to making any investment or investment-related decision.


author's photo

Kelly Gauthier

Rally Assets

As President, Kelly runs Rally. She is responsible for Rally’s day-to-day operations and client relationships. She leads the team and manages the business to enable Rally to grow. Kelly anchors Rally’s impact thought leadership both internally and externally. For two decades she has helped clients create impactful portfolios. She has worked with a range of asset owners to design and implement their approach to responsible and impact investing, strategically aligning their investment and portfolio strategies with positive outcomes for people and the planet. Kelly is a board member of the Responsible Investment Association and an Investment Committee member for SheEO’s Venture.Fund.