Impact investing in private equity – a UK pension fund perspective

This Pensions for Purpose Impact Lens report, sponsored by Columbia Threadneedle Investments, explores how the UK pension fund market is viewing impact in private equity.

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Columbia Threadneedle Investments is a global asset management firm providing investment solutions in private equity. They invest mainly in mid-market buyouts through funds (primaries and secondaries) as well as co-investments. Their belief is that independent research allows information to be turned into forward-looking insights, resulting in smarter investment decisions. To collect the data for the report, Pensions for Purpose surveyed a range of pension funds and investment consultants. A summary is below.


1. Why do they invest for impact?
Many of the pension schemes intentionally investing for impact have taken the view that impact investing has material financial benefits, not just for a specific investment but also to their whole portfolio, through the reduction of systemic risk. For defined contribution (DC) schemes, there is the added benefit of improved member engagement while for local government pension schemes (LGPS), the levelling-up agenda has sparked interest in place-based impact investing.

2. Which impact themes do they target?
Most pension funds are not targeting specific impacts. Typically, they allocate to impact investments on a case-by-case basis. Despite this, the financial materiality of any environmental, social and governance (ESG) factor is the main consideration which comes into play. In the case of the LGPS, issues that matter to local stakeholders are also considered. It was noted that impact data can be difficult to obtain from private equity managers.

3. Do they have separate allocations to impact investments?
Of the funds asked, 42% have a separate allocation to impact. However, this is not necessarily the best way to achieve impact, funds which have higher weightings to impact investment do not have impact allocations.

4. What are their ESG engagement priorities?
Climate is the main engagement priority for pension funds but there are growing concerns around biodiversity, with some funds mentioning their aim of deforestation-free portfolios. On the social side, employment standards are a key area for engagement.

5. What are the biggest ESG risks/opportunities?
Climate is seen as the number one consideration, with the carbon market perceived by one fund as both the biggest risk and the biggest opportunity. The development of carbon and biodiversity credits will also help to price externalities more accurately, which would be positive for continued growth in the ESG and impact movement. Other opportunities existing within climate were mentioned, such as renewable energy, which has pertinence given high energy prices. The social side also provides many opportunities, particularly when looking through a global lens. Rising inequality is a systemic risk facing the world, though, and investors should address this by applying a just transition lens to their ESG activities. Within the ‘G’, private equity provides an opportunity for impact and for risk and return, because larger stakes allow for greater influence over the investee company.

6. Are they measuring the net-zero alignment of their portfolios?
Fifty per cent of pension funds are currently reporting the net-zero alignment of their portfolio. Data quality and coverage is an issue, however.


1. What are their allocations to private equity investments?
For the vast majority, allocations to private equity are in the single figures. Many schemes are de-risking, so, for them, increases to their allocations are unlikely. But, due to the attractiveness of the asset class financially and in terms of impact, demand is there.

2. How interested are they in co-investments or secondaries?
In general, co-investments were seen as resource-intensive and, for the smaller LGPS, the governance burden was too heavy for them to consider investing. As a result, co-investing alongside a fund manager was seen as a good solution. For DC schemes, there were considerable upsides to co-investments – lower fees open doors to opportunities otherwise inaccessible due to cost caps imposed upon the pension fund. From a stewardship perspective, investing in secondaries may make it more difficult to engage but this was not seen as an issue with impact investment funds. It was also noted that secondaries have diversification benefits.

3. How important are liquidity and time horizons?
Although liquidity may be an issue for defined benefit (DB) schemes close to buyout, the LGPS and DC pension funds we spoke to did not regard liquidity as an issue. The LGPS see themselves as well-placed to benefit from illiquidity premiums and the DC schemes we interviewed have issues elsewhere, namely fee limitations. Time horizons for assessing returns and impact were around five years after capital deployment.


1. Why is private equity a well-placed asset class for impact?
Most pension funds and their advisers see private equity as the best way to achieve impact. Many reasons were outlined for this: they can support innovation; there is a broader universe of ideas; general partners (GPs) have greater influence over the company than public equity fund managers (due to greater stakes in investee companies); and the return profile is good.

2. How important is ‘additionality’?
The investment consultants we spoke to pointed to a lack of client understanding of additionality. There is also the question of how investors can evidence additionality. Consequently, most pension funds do not seek additionality but clear and measurable impact. In our sample, the exception is one of the larger LGPS that has place-based impact goals and is acting as a catalyst for local economic growth by engaging asset managers to set up funds which invest in their local area, thereby encouraging neighbouring LGPS to invest. It was also mentioned that additionality could drive returns by identifying opportunities underserved by the market.

3. What percentage of them are invested in impact private equity?
Of the funds interviewed, 43% are invested in impact private equity.

4. Are they looking at single-focus or diversified products?
Some pension funds are keen to focus on single strategy products and move away from diversified ones. Others see the benefits of diversified strategies, particularly if their private equity allocation is small.

5. What are their geographical preferences for impact?
Traditionally, the location of pension funds’ impact has been global but the trend is for UK pension funds to have a more domestic focus. This is largely driven by the LGPS and the government’s levelling-up agenda, but also comes from DC funds which see UK impact as having high potential for member engagement. Impact ambitions tend to vary across impact themes. The focus of social impact is mainly within the UK, whereas climate impact tends to be more globally oriented.

6. What are their crucial criteria for impact private equity funds?
Track record and risk-adjusted return profile are central to assessing impact private equity funds. However, potential tension between past performance and emerging strategies was noted, particularly in the impact space, so a balance must be struck. Of those asked, 67% assessed the impact narrative before financial and practical considerations. This should be regarded comparatively, to assess where a pension fund can have the most impact. For DC schemes, fees often make impact private equity funds difficult to invest in, albeit the schemes we spoke to are trying to work around this.


1. What are their return expectations from private equity?
The mean return expectation from private equity reported by the schemes questioned was 15%.

2. What does the academic literature on impact vs generalist fund returns say?
Academic research on the returns of impact funds versus generalist funds is limited and more work needs to be carried out. Methodological limitations and the infancy of the industry hinder the reliability of current research. Therefore, it is difficult to definitively answer whether impact funds produce higher returns than generalist funds. However, the research shows there are a number of opportunities for alpha in impact investing.

To the extent that anything in this report constitutes a financial promotion it is exempt from the general prohibition in S21 of FSMA on the basis that the report is only intended for investment professionals as such term is defined in S19 of the Financial Promotions Order. Please note that Pensions for Purpose does not provide consultancy services, advice or personal recommendations on any of the investment opportunities mentioned in this research. We collaborate on research projects with our members, we do not endorse any underlying funds.

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