Half of LPs allocating to impact from generalist pool as market matures – Rede Partners

As impact and sustainability strategies become more established, 50% of LPs are tapping their generalist pools as opposed to dedicated impact pools. This development shows LPs’ recognition of the rise of megatrends in impact and sustainability, said Jeremy Smith, head of impact at Rede Partners.

“Five years ago, dedicated impact pools were set up due to the idea that you had to make a trade-off for returns," Smith said. "Impact pockets now tend to act more like emerging manager pockets with the ability to back younger vintages, or less mature track records."

The shift into generalist pools also affects how LPs view and analyse these groups, according to partner Kristina Widegren. "Although LPs might have different hurdles when it comes to maturity and size when they analyse an impact manager, as they want to back megatrends and put their capital to work to address these, impact managers end up being compared as equal to everyone else when it comes to performance hurdles once they fall into the generalist pool."

This change in LP attitudes to impact is reflected in their allocation preferences. More than a fifth (21%) of LPs expressed their intention to increase impact allocations in 2023, placing it ahead of technology (17%) and second only to healthcare (30%). Within impact, more than half (51%) of LPs said they see climate change mitigation as a core focus of their impact allocations, with 48% citing healthcare and 34% food and agriculture.

Across the pond
The survey collected the views of 160 global institutional LPs, also highlighting ongoing differences between North America and Europe. Breaking down allocation preferences by geography, just 10% of North American LPs said they planned to increase impact allocations in 2023, versus 42% of the European LPs surveyed.

"European LPs, as a generalisation, seem to be more engaged with sustainability.," said Smith. "On the US LP side, we are seeing interest across the board for managers specialising on impact megatrends, but the word 'impact' can still have an association with concessionary returns in the US. We do see impact coming from all sorts of pockets in the US, but they are not as forward about categorising it as impact as LPs in Europe."

European LPs established dedicated pockets for impact and were vocal in expressing an intention to invest more in this space earlier on, said Widegren. "A lot of European groups have been successful in capturing this demand, and LPs are now looking to the US." The US market is further ahead when it comes to specialised strategies, however, with much of LPs' appetite focused on US-based impact managers who have identified climate and decarbonisation as clear themes, Widegren said.

Reflecting this, 60% of LPs said that North America will be a core focus of their impact allocations, with 45% saying the same of Europe.

Weathering the storm
Impact funds have raised record amounts in recent years, as reported. And while much of Rede Partners’ report reflects the maturity and growth of the impact and sustainability market, questions remain as to how the sub-asset class might fare during an economic downturn.

In spite of the uncertainty, there has been a clear shift in mindset since the last significant downturn in the GFC, according to Smith. "I remember when we hit a delicate economic moment in 2007, and there was a sense that you could either support the environment or the economy, and you had to pick one," he said. "But as we headed into Covid, this turned on its head and was replaced with a very different mindset – the idea that you could look after the economy without also supporting the environment had gone, there is now a very different mindset."

Although LPs will continue to back climate and decarbonisation-focused funds with knowledgeable teams, there is a “definite willingness right now to lower the bar a bit” in the current market, according to Widegren. “Although it’s no longer acceptable to take down the bar on return expectations, it can be lowered in terms of the maturity of funds or a team’s track record. LPs have been committing to smaller and younger funds in this space – but in a downturn there could be a flight to bigger, more established names, that’s where more of the risk lies.”

Any economic downturn will affect different impact strategies and themes differently, both Smith and Widegren said. “The amount of capital that has started to go into other impact themes like social issues might get reduced, but I don’t think there will be any shift on the focus on climate," said Widegren. "Impact will be a huge part of value creation over the coming period, and PE is very well placed to execute this. But the maturity of funds and the size of funds that will take most of that capital could get more scrutiny.”

There are still reasons to back impact and sustainability in the longer term, too. “against an overall slowdown in the market, there has been an overall increase in impact," said Smith. "LPs are focusing on the fact that impact can be defensive in allowing them to keep ahead of consumer preference and regulatory shifts.”

The impact space is also viewed as a good source of growth equity opportunities, in spite of concerns elsewhere in the asset class in the current environment. Of the LPs surveyed, 65% said they planned to invest in growth equity as a core focus, with 57% citing buyout.

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