What’s the Role of Public Equity Investing in Driving Systemic Change?
The challenge of designing synergistic investment portfolios across private and public markets
At the TransCap Initiative, we’re working on developing, testing, and mainstreaming a new investment logic at the intersection of systems thinking and finance practice. (→ You can learn all about the why, what, who, and how by browsing our website or reading our white paper.)
One element of our theoretical framework that feels underdeveloped is the question of what role public equity investing could play in a systemic investment portfolio intending to catalyse transformative change in real-economy systems. The white paper posits that…
“Many sustainable finance efforts focus on secondary markets (most notably securities traded on stock exchanges) and thus operate at a distance to the real economy. The causal chain between the actions of an investor and their effect on environmental and social outcomes can therefore be very long.” (page 19)
…and then goes on to tentatively conclude that systemic investing is mostly private markets investing.
While this assertion still feels valid, it’s also shallow and incomplete, which is why we’re looking to crowdsource a better answer.
First, let’s recall the essence of systemic investing:
- Take a real-economy system — a city, a landscape, a food supply chain — and articulate a transformation intent (“mission”).
- Map the system, hypothesize transition pathways and transformation strategies, and identify sensitive intervention points.
- Compose multi-asset-class portfolios of investments that generate combinatorial effects (i.e., strategic synergies) amongst each other.
- Nest those investment portfolios within a broader systems intervention approach that engages “non-investable” levers of change (e.g. policy).
- Run learning and sensemaking protocols to extract insights and generate strategic intelligence for follow-on investments.
So, in the context of this simplified definition of a systemic investment logic, where and how do public equities fit in?
Here are some of the considerations that we believe are relevant to this question:
- No additionality is generated when an investor trades shares in a company through a stock exchange. This investor just buys the shares from (or sells them to) some other investor, with zero consequences for what’s happening in the real economy.
- The causal chain between making an investment and generating impact in society is indeed long and diffuse. Let’s say someone buys shares in an IPO or participates in a capital raise: How long will it take for that capital to unleash real-economy effects, and how can the investor control that?
- Public equities investing is the quintessential single-asset investing. This means that it’s difficult to generate combinatorial effects with other assets in the portfolio and to work through the company to engage other levers of change (e.g. affect policy through the company’s lobbying practice). Investors can do either of these only if they can directly influence a company’s business strategy and conduct, and for that to be possible investors must either own so much of a company as to get board representation (e.g. Berkshire Hathaway) or make a material difference in a shareholder engagement campaign (e.g. Engine No 1).
It’s also worth considering what the academic literature might teach us about the topic. In their landmark paper “Can Sustainable Investing Save the World?”, Kölbel et al. (2020) identify three levers of change for impact investors — shareholder engagement, capital allocation, and indirect impacts — and draw the following conclusion:
- Shareholder engagement is, relatively speaking, an effective way of effecting change but (i) relies on investors having a critical degree of influence and (ii) is more likely to trigger incremental improvements rather than transformative change.
- Capital allocation decisions are likely to only generate additional impact when they affect companies that face capital constraints, which tends to be the case for young and risky companies (e.g., start-ups, which trade in private markets) but not for publicly listed companies.
- As for indirect approaches — stigmatization, demonstration, endorsement, and benchmarking — there is too little empirical data to draw dependable conclusions, “so that the extent of investor impact remains a matter for speculation”.
So, with the above reflections in mind, let me pose the question again:
How could a public equity component make a strategic contribution to a systemic investment portfolio that intends to drive deep, structural change in real-economy systems?
In other words, how might we think about designing a public equity component into a portfolio of private assets (venture capital, infrastructure finance, corporate debt, etc) in a way that creates combinatorial effects across the public and private asset classes?