Pension fund ABC

Proposal for adding investments in emerging markets to the fund’s allocation

• What long term, sustainable investment opportunities do you want to gain exposure to?

As a member of the investment committee of the pension fund ABC I am looking for opportunities
that can enhance the fund’s returns. The pension fund is Defined Benefit, so we have a target return
to meet. The average number of years until retirement is 22, which is a relatively long time horizon.
Therefore, with a long time horizon the committee is seeking to allocate a small portion of the fund
to long term high return investments, with volatility and liquidity being of secondary concern as this
part will only be a small part of the portfolio.

At the same time, as a company we are adhering to having a positive impact in the world. Therefore
we would like our investments also reflect this. We have still not developed a process on how to invest
with positive impact and respect to the Sustainable Development Goals, but it is on our agenda. More
specifically, we think that Africa has the fastest growth potential in the world and also the
demographic trend will likely lead to high investment returns.

Based on preliminary research, the committee has understood that investments in emerging markets
in sectors such as clean energy, transport, urbanization and healthcare are able to provide us with
high returns and make a positive impact at the same time.

• What asset classes are best to provide you that exposure?

There are many options to invest in emerging markets. In the equity asset class there is publicly traded
equity markets in most emerging markets. The decision then would be whether to invest with a
passive, i.e. following an index such as MSCI or an active fund where fund managers have discretion
to pick the most attractive stocks. Regarding positive impact, there are several funds that use
Environmental Social Governance (ESG) criteria to screen their investments. Usually these ESG screens
are outsourced to specialist providers.

There are also private equity funds that invests exclusively in emerging markets. Private equity
provides access to investments that are not available in public markets. Moreover, private equity
investments in EM usually invest a high share of their fund in infrastructure investments.
Infrastructure investments are very appealing to us because they provide relatively steady cash flows
and have a long-term horizon.

Both public and private equity in EM are generally considered high risk high return asset classes.

There are also opportunities in fixed income. The simplest fixed income investment is in emerging
market government bonds or bonds of large EM corporations. In the riskier end of the spectrum is
private credit, i.e. lending to EM companies via traditional loans. The attractiveness of fixed income
compared to equity is that it provides steady cash flows, though of course the returns are expected to
lower on avarege.

• What fund managers should you commit your funding to?

Given the wide range of opportunities to invest in emerging markets there is also a wide range of
managers to select from. In the private equity space, Helios Investment Partners, AfricInvest and
Albright Partners are all private equity specialists in emerging markets. Helios and AfricInvest both
specialize in Africa while Albright Partners invest across all emerging markets, but mostly in Latin
America.

Some of Helios investments are also funded by the International Finance Corporation, which adds a
stamp of approval and credibility.

Types of investments include housing projects, clean energy production and distribution, education
and healthcare. All of these align with the SDGs.

All three of these funds mention that they strive for positive impact. However, there is little details on
how they achieve this. To do our due diligence, we will prepare a questionnaire using the template
provided by the Principles for Responsible Investment (PRI).

In the publicly traded equity space, we believe a passive approach would be more appropriate as the
fees of active managers we think do not justify the returns. A fund such as Blackrock’s iShares ESG
MSCI EM ETF we think is a good way to get exposure to public equities and at the same time adhere
to ESG standards. The concern with ESG screens is that the impact assessment is done in a mechanical
way.

In the fixed income space, there are also passive and active funds. We understand that passive fixed
income funds are underperforming the active funds, especially in emerging markets. An active EM
fixed income specialist is Ashmore. Their range includes government bond funds, in both local and
hard currency and EM corporate bonds.

• What risks should you consider?

Investing in emerging market private equity and/or credit entails a series of risks. In the strategy we
will ensure that we monitor foreign exchange risk, credit risk, interest rate risk, political risk, inflation
risk, liquidity risk and reputational risk. Especially relevant for emerging markets are FX risk, even more
so if we invest in fixed income local currency. Regarding political risk we might be able to get some
protection from MIGA. Private equity investments are especially illiquid. Reputational risk is
particularly relevant as we would like to keep our positive impact image as a company intact and
investments with negative social or environmental impact could severely damage our reputation.
 • How will you evaluate these fund managers for their performance and impact?

The three private equity specialists all claim to consider impact criteria in their investment process.
This is done in a bespoke way by each of the investment managers. There is not much detail regarding
measurement of the impact of their portfolio companies.

Before deciding the appropriate manager, I would question the managers’ approach to impact
investing. Since impact is still a fluid concept, I would engage in discussions about their track record
and hypothetical examples to deeply understand their investment process.

The two passive funds rely on metrics by specialist ESG rating agencies for their impact decisions.

The Blackrock’s iShares ESG MSCI EM ETF uses the JESG index to screen for ESG criteria. According to
the documentation, the JESG index will score more than 170 countries and more than 650 issuers on
data provided by research providers Sustainalytics and RepRisk as well as the Climate Bonds Initiative
(CBI)

The other managers follow different kinds of approaches, with little details available on their website.
The investment committee will prepare a detailed questionnaire to assess societal impact. Our
questionnaire will be based on Principles of Responsible Investment and guidelines by the World Bank,
as well as the Sustainable Development Goals.

Sources

Blackrock

Helios Investment Partners

AfricInvest

Ashmore

Albright Capital

Principles for Sustainable Investment: Asset Owner Selection guide

International Finance Institutions and Development Through the Private Sector

INVESTING FOR IMPACT: Operating Principles for Impact Management