Fix boomers' ESG dilemma with bonds

Older investors have the lion's share of investible assets, but their age or need for current income could limit their interest in ESG equity investments

Oct 8, 2018 @ 12:05 pm

By Louise M. Herrle

When it comes to ESG investing, Wall Street's product development boom has produced an abundance of ESG equity funds suitable for many investors with the risk tolerance for equities.

This may work for millennials, but what are Baby Boomers or older investors to do if they are interested in environmental, social and governance goals but not in a position to increase or maintain their equity exposure given their advancing age? The answer can be found in the fledgling ESG fixed-income market.

What about Older Investors?

How prevalent is equity ESG? Of almost 1,900 ESG funds tracked by Bloomberg, 15% invest in fixed income, versus 62% that invest in equities. On an asset basis, fixed income represents only about 3% of the $491 billion invested in such funds.

Millennial interest in ESG investing has been widely reported, and it should come as no surprise: It not only aligns with their personal beliefs, they've grown up as investors having many more ESG choices and access to more ESG information than any generation before. Older generations were building their portfolios as the ESG market was awakening. They had fewer choices and little educational information; and the strategies were not as time-tested.

But socially conscious boomers and older investors face a dilemma. They have the lion's share of investible assets, but their age could influence the amount of risk they are willing to take to satisfy their ESG goals.

Their ESG choices may be further limited by their need for current income, depending on their age and whether they are in retirement. Having fewer options could prevent them from fulfilling their ESG goals, or from even having ESG goals.

Fix Boomers' ESG Dilemma with Fixed Income

Advisers and baby boomers or older investors should be aware of the different ESG fixed-income alternatives available that can satisfy their social impact goals while also contributing to their investment objectives. Importantly, a category of fixed-income investments has emerged that gives investors greater ability to focus their approach through targeted social impact investing, instead of settling for the non-targeted approach that many ESG fixed-income funds offer.

Individual impact bonds allow investors to be intentional in how they financially support their personal interests, such as small business development, affordable housing or sustainable energy. For example, through impact bonds, investors can finance the activities of community development financial institutions, or CDFIs. These are mission-driven financial institutions that issue bonds to propel specific projects, typically in economically disadvantaged communities. As is the practice with all individual bonds, the use of proceeds is completely transparent, so investors know exactly how their capital is being put to work. Additionally, issuers provide reporting of outcomes that allows bond investors to measure their impact.

The fixed and predictable interest payments from these bonds may be appealing to ESG-minded affluent or retired investors who rely on investment income.

These bonds might also be an attractive way for investors with charitable foundations to help fund required minimum charitable distributions. In this case, investors achieve a double benefit: By investing in an impact bond, they are fulfilling one ESG goal, and by using the proceeds to underwrite their charitable giving, they are compounding their impact.

As with all bonds purchased at par, impact bonds provide return of principal when held to maturity, subject to the credit risk of the issuer. Since these bonds are offered at varying maturities, advisers can help their clients build impact bond ladders to create a diversified portfolio of fixed income investments — and causes.

Advisers and investors can achieve a fixed-income impact investment strategy with bonds of issuers such as nonprofit organizations, financial organizations, such as CDFIs, or international development organizations that, combined, focus on creating social change, improving the environment, reducing poverty and increasing shared prosperity.

Use Impact to Bond with Clients

When it's time to review your clients' portfolios, ask about their ESG objectives. Do they have causes that matter to them or their family? Do they want to target their ESG investments more precisely? Do they understand that they have lower-risk fixed-income choices to tap into the ESG market?

Showing boomer or older investors how impact bonds can help them achieve their investment and ESG objectives without taking on the added risks of ESG equities may have a beneficial impact on your clients' portfolios and strengthen your client relationships.

(More: Why investors may be overlooking the benefits of impact investing)

Louise M. Herrle serves as managing director and head of SRI at Incapital, where she has been the chief architect of the firm's Legacy platform for distributing social impact investments.


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