Impact Beyond the Obvious

    Originally the domain of private investors, the potential to capture and create impact in public equity markets has broadened tremendously over the past decade. To harness these growing opportunities, in March 2021, T. Rowe Price launched the Global Impact Equity Strategy, an impact strategy investing in listed companies. Hari Balkrishna, the portfolio manager, charged with the dual mandate to deliver both benchmark outperformance and positive environmental or social impact, tells us more about the new venture.

    Hari Balkrishna
    Portfolio Manager
    T. Rowe Price

    “Given the magnitude of the world’s environmental and social challenges, we believe that private markets alone will not suffice to build the required solutions to the very real and very complex friction points that exist for our planet and our global community,” says Balkrishna. “To match the magnitude of the issue with a magnitude of response, governments, capital owners, and asset managers must work together to incentivise and align listed businesses with better practices. Impact investing is one way to do this by adding a perspective into the investment process directed at the broader consequences of a business’s operations,” he explains.

    The Four Principles: Materiality, Measurability, Additionality and Resilience

    Balkrishna guides us expertly through the investment philosophy underlying T. Rowe Price’s impact strategy. “We start with a notion of materiality. Every investment that we look at should have an impact that is material to its business model,” he explains. What this means in practice is that the majority of a company’s revenues should come from one of the three impact pillars identified by T. Rowe Price: climate and resource impact, social equity and quality of life, or sustainable innovation and productivity. “We base our stock inclusion criteria on a corporation’s activities and their alignment with clearly defined impact pillars, always accounting for dimensions of positive future change,” he adds.

    The second principle, firmly embedded in the investment process, is that of measurability. “At the outset of the investment, we want to assess what key performance indicators we are going to hold our impact investments accountable to. For instance, if we invest in renewable energy, we are considering megawatt-hours of renewable energy generated by the company and the CO2 avoided as a consequence,” says the portfolio manager. The aim is to quantify outcomes individually and collectively, thus translating impact intentionality into a measurement framework.

    The third aspect, additionality, is especially important when investing in public equities, according to Balkrishna. Alongside investing in companies that create additional impact as a direct consequence of their actions, T. Rowe Price aims to add extra impact through their stewardship program, including company engagement and a custom proxy voting policy. Proxy voting is a helpful mechanism to express the impact policy, as is active engagement with companies on impact issues. “In our view, active engagement is a key attribute of how you can make a difference as a public equities impact manager in the ultimate delivery of impact,” Balkrishna points out.

    Finally, the fourth aspect of T. Rowe Price’s impact charter is resilience. The aim is to create a strategy that combines robust risk control with a breadth of ideas rather than only relying on historical ESG data. “We do this by looking forward, embracing and capturing change and making sure our impact pillars cascade multiple different sectors and geographies,” says Balkrishna. “With a global and future-insights-driven perspective, we believe we can partner with clients to target positive impact while creating an approach that seeks to embed resilience to stock-specific and cyclical shocks which are part of equity investing,” he adds.

    “Due to the very complex friction points that exist for our planet and our global community, delivering impact requires patience and an understanding of change. This is why being resilient in applying an impact-oriented investment approach is imperative,” concludes Balkrishna.

    Beyond The Obvious

    There are some areas that everyone associates with impact investing, such as renewables and healthcare. Yet, there are plenty of other, less explored opportunities that T. Rowe Price has identified as attractive from an impact perspective. Balkrishna is happy to provide some concrete examples.

    “Under our first pillar – climate and resource impact – we can clearly find impact in companies reducing greenhouse gases as part of their future business plans,” he says. “Renewable energy is a well-known area, but many industrials also enable other companies in their de-carbonization journey,” he adds. Examples include industrial gases companies solving future carbon capture and green hydrogen needs. Outside of energy transition, companies promoting healthy ecosystems and enabling the circular economy are other areas where the portfolio manager finds meaningful and less well-understood impact today.

    Within the area of social equity and quality of life, T. Rowe Price focuses on companies that can enable social inclusion through financial inclusion, both in emerging and developed markets. This pillar also incorporates improving health outcomes. “We look for companies within the healthcare ecosystem which improve the pace of innovation, reduce costs, or meaningfully change patient outcomes. We also look at companies which improve physical fitness, mental fitness, and aid personal and cybersecurity,” explains Balkrishna.
    The third impact pillar, sustainable innovation and productivity, targets innovative technological solutions that solve specific social or environmental problems.

    Examples include semiconductor companies that are essential for harnessing innovation within education, technology, and healthcare. Investing in smart-city infrastructure or smart manufacturing business models is also a powerful way to affect change.

    “We look beyond the obvious to find positive impact opportunities across areas of the market where the future impact is yet to be understood or priced in correctly by investors,” says the portfolio manager.

    No Lack of Challenges

    Despite their good intentions and systematic approach, many impact investors tend to stumble at the challenging task of measuring the actual results of their efforts. “To be clear, data to measure impact today remains incomplete, while common standards of impact measurement have not been developed on par with performance and returns analysis. This makes impact measurement inescapably complex,” admits Balkrishna.

    At T. Rowe Price, the way to tackle this challenge is to take a stock-by-stock approach to the impact assessment and the impact measurement. It is done at two levels. Before making an investment, the manager uses a proprietary framework called ‘Impact Management Project’. It is a useful tool to assess five essential dimensions of impact: the strategic goal of the impact, who is affected by it, the scale, the depth, and the impact risk. “Importantly, we also try to identify a key performance indicator that we can actually hold these companies accountable for on an annual basis,” adds the portfolio manager.

    Once an investment is made, its impact is measured using the ‘theory of change’- framework. “We look at inputs, activities, outcomes, and outputs, and assess the impact against the key performance indicators that we ascertained at the outset of the investment. This is important as it allows us to track the impact performance against our impact thesis,” explains Balkrishna. “While time-consuming and complex, this analysis is backed up by data, internal research, as well as scientific and academic work where it helps to refine impact measurement,” he adds.

    Environmental disclosure has improved significantly in recent years and will likely continue to improve to allow impact managers greater accuracy in their measurement. In the meantime, T. Rowe Price, alongside other impact managers, can use aggregate measures relating to emissions and carbon intensity in many industries to understand where positive impact leads to CO2 mitigated. Long-term, however, the need to improve data availability and develop common frameworks within the industry is undeniable. It is, therefore, essential to engage with companies to improve data disclosure.

    A Passion For Impact

    According to Balkrishna, it is important to understand that impact investing is not the same as environmental, social, and governance (ESG) integration. It is also a different discipline from sustainable investing. Impact investing incorporates both, yet it takes a step further.
    “Part of my role as an impact investor is helping individuals and institutions to make sense of what is happening in the world around us and how that could manifest into risks and opportunities within investment portfolios,” reflects Balkrishna. It helps, of course, that his personal background has provided plenty of insights. Born and raised in India, Balkrishna has lived and worked in Latin America, Australia, the US, and Europe. “That has really given me an appreciation for different social constructs around the world; what works and what doesn’t,” he says.

    The portfolio manager admits to a personal passion for finding solutions to the climate change challenge. He seems equally passionate about fulfilling his fiduciary duties to deliver superior financial performance. “Being able to put these two together in a product that delivers positive impact and positive financial performance for me is a dream job,” Balkrishna concludes.

    The following risk is materially relevant to the portfolio:
    Style risk – different investment styles typically go in and out of favour depending on market conditions and investor sentiment. We apply a high conviction, long-term and durability focused approach to investing. While we believe this is beneficial to returns and specifically, the compounding of returns over time, there will be times where markets are driven by factors not related to long-term earnings and cashflow fundamentals. Our bottom-up focus may mean that periods of intense macro or top-down focus create headwinds to return, but these tend to be transient as a driver of stock prices.

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    Julia Axelsson, CAIA
    Julia Axelsson, CAIA
    Julia has accumulated experience in asset management for more than 20 years in Stockholm and Beijing, in portfolio management, asset allocation, fund selection and risk management. In December 2020, she completed a program in Sustainability Studies at the University of Linköping. Julia speaks Mandarin, Bulgarian, Hindi, Russian, Swedish, Urdu and English. She holds a Master in Indology from Sofia University and has completed studies in Economics at both Stockholm University and Stockholm School of Economics.

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