Quantifying the Impact of Impact Investing

We propose a quantitative framework for assessing the financial impact of any form of impact investing, including socially responsible investing; environmental, social, and governance (ESG) objectives; and other nonfinancial investment criteria. We derive conditions under which impact investing detracts from, improves on, or is neutral to the performance of traditional mean-variance optimal portfolios, which depends on whether the correlations between the impact factor and unobserved excess returns are negative, positive, or zero, respectively. Using Treynor-Black portfolios to maximize the riskadjusted returns of impact portfolios, we derive an explicit and easily computable measure of the financial reward or cost of impact investing as compared with passive index benchmarks. We illustrate our approach with applications to biotech venture philanthropy, a semiconductor research and development consortium, divesting from sin stocks, ESG investments, and meme stock rallies such as GameStop in 2021.

Automated summary

This article proposes a quantitative framework for evaluating the financial impact of impact investing. It derives the conditions under which impact investing affects the performance of traditional portfolios and provides an explicit measure of the financial reward or cost of impact investing compared to passive index benchmarks. The approach is illustrated through applications to various investment scenarios.