As climate change, environmental degradation, and social issues intensify, sustainable investing has emerged as a way to make a positive difference.
Sustainable investing is the practice of making investment decisions that not only provide financial returns but long-term environmental or social value—and it’s rapidly garnering attention.
According to the online course Sustainable Investing, over 25 percent of global assets in 2021 were allocated in accordance with an environmental, social, or governance (ESG) mandate, labeling them as “sustainable” or “green” investments.
Yet, the swift rise in sustainable investments’ popularity has led to a deceptive phenomenon called impact washing. Here’s a primer on what impact washing is, why it happens, and how to identify and combat it.
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Impact washing is when fund managers or bond issuers overstate or falsely claim an investment’s positive impact on the environment or society. This can be a purposefully dishonest claim, an embellishment of the truth, or a mistake due to inadequate impact measurement.
Greenwashing vs. Impact Washing
Before diving deeper into impact washing, you must separate it from the closely related term greenwashing.
Greenwashing is when a company claims business practices or products are sustainable when they aren’t. This is often done to garner positive attention and attract socially and environmentally conscious customers. However, it can backfire: Modern consumers often spot and call out instances of greenwashing, resulting in negative press and loss of customer loyalty.
Impact washing is similar to greenwashing but specific to the investment world. It’s done to draw socially and environmentally minded people to specific investment decisions. Impact washing can be harder to identify than greenwashing, so it continues to be a real problem in the investment space.
Why Does Impact Washing Happen?
Although unethical, impact washing isn’t illegal. This is because there aren’t any public standards or laws currently governing sustainable investments. There are private governance measures in place, but they aren’t required for something to be labeled as a sustainable or green investment.
Some firms take advantage of this lack of legal governance to exploit the growing trend, labeling stocks, bonds, or other assets as sustainable or green without ensuring they’ll be used for such purposes.
Further incentivizing impact washing is the number of individuals willing to invest more money into sustainable investments than unsustainable ones. Because of this, some firms increase their assets under management by immorally stretching the truth.
Impact washing can also happen accidentally if firms don’t accurately measure their investments’ impact—or at all. Labeling an asset as sustainable or green without tracking whether it makes a positive impact in the way that was promised is still a form of impact washing. This usually doesn’t happen out of malintent and can be fixed by implementing internal procedures and best practices.
How to Identify and Stop Impact Washing
If You’re an Investment Professional
If you’re an investment professional who manages portfolios or issues bonds, you’re likely already aware of your firm’s approach to sustainable investing. If you’re just breaking into the field, Professor Caroline Flammer, who’s featured in Sustainable Investing, recommends this basic structure for certifying sustainable investments:
- At the time of issuance, certify the asset is committed to financing environmentally or socially beneficial projects.
- After the funds have been invested, verify they were used for the intended purpose and report on their impact.
If your firm doesn’t already abide by a set of sustainability standards, consider proposing one. For example, many firms base their criteria around the United Nations’ 17 Sustainable Development Goals, which include lofty objectives, such as ending poverty worldwide, taking urgent action to combat climate change, and achieving gender equality. An asset’s proposed contributions toward one or more of those goals can be foundational for categorizing it as a sustainable investment.
Additionally, measuring and managing sustainable investments’ impact is key. If your firm isn’t already using clear, rigorous methods to measure and manage their impact, consider proposing some.
In Sustainable Investing, Harvard Business School professors Shawn Cole and Vikram Gandhi recommend using the Nine Impact Principlesdeveloped by the International Financial Corporation as a guide. These principles were developed to inform decision-making regarding sustainable investments:
- Define strategic objectives consistent with the investment strategy.
- Manage strategic impact on a portfolio basis.
- Establish the manager’s contribution to the impact’s achievement.
- Assess each investment’s expected impact using a systematic approach.
- Assess, address, monitor, and manage each investment’s potential negative impacts.
- Monitor each investment’s progress toward achieving impact against expectations and respond appropriately.
- Execute exit strategies that consider the effect on sustained impact.
- Review, document, and improve decisions and processes based on the impact’s achievement and lessons learned.
- Publicly disclose alignment with the Nine Impact Principles and provide regular, independent verification of the alignment.
There isn’t currently one way to measure and manage the impact of sustainable investments, so it’s up to private firms and professionals like you to lead with integrity and hold each other accountable to effect change while delivering returns.
If You’re an Individual Investor
If you’re an individual investor who’s searching for true sustainable investment options, learn more about the firm you’re working with. You can ask questions like:
- How does the firm determine whether to label an investment as sustainable?
- What standards or principles do you use to make those decisions?
- How do you measure the investment’s impact? Will I be notified of its impact after the fact?
Because there’s no public governance of sustainable investments, the answers to these questions can vary greatly between firms. As an individual investor, you can explore your options. If a firm doesn’t have a clear measurement system in place or can’t articulate its criteria for labeling an investment as sustainable, it may be impact washing. In that case, you’d be better off investing elsewhere.
Holding Firms and Companies Accountable
Until public governance of sustainable investments is in place, it’s up to investment professionals and individual investors to thwart impact washing. You can do this by ensuring your firm and colleagues adhere to private standards and by holding other companies accountable to use funds for sustainable projects.
Taking an online course, like Sustainable Investing, can be an effective way to gain the skills to identify sustainable investment opportunities, responsibly manage portfolios, and avoid impact washing.
Are you interested in learning how to make positive, long-term environmental and social change while providing strong financial returns? Explore Sustainable Investing, one of our online business in society courses.
