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How to Disrupt Investment Management

Cornerstone Capital’s Erika Karp on the danger of “lazy stewards of capital,” why investors need to look at economics as well as finance and how to find the will to change.

Erika Karp speaks at the 2nd Annual Pride & Prejudice Summit. Photo by Mike Coppola / Getty Images

Erika Karp, founder and CEO of Cornerstone Capital, is a leading thinker in sustainable investing, corporate strategy and governance, employee engagement and diversity, and many other areas. Green Alpha Advisors, my firm, is excited to be collaborating (as one of several subadvisors) with her on Cornerstone’s new mutual fund, the Cornerstone Capital Access Impact Fund (Ticker CCIIX).  I recently had the opportunity to catch up with Karp about the state of impact investing, how to think about risk and what she’s doing about it all.

Q: Erika, let’s jump right in and tell investors how they can have impact.
A: We would argue that all investments have impact. The question is knowing what that impact is, positive or negative, and so we seek to find transparency in data, in meaning, in accountability, in auditability and in incentivization data throughout the investment process, with our managers and with our companies. So directing the impact is what’s key here.

You and I share a vision for what an indefinitely sustainable and inclusive economy might look like. And yet no outcome is inevitable, so while we have our vision, we aren’t exactly sure how the world is going to get there. And yet as investment managers, it’s our job to make some strong predictions about how we’re going to get there. So in terms of optimizing long-term performance, how can investors like you and me make our theories more predictive?

This is exactly where the idea of constant questioning thinking comes in, like messing with your assumptions and scenario building, and it’s where the ideas of transparency and corporate disclosure get involved. You know data in the ESG world is very questionable. It’s very early days in having good data, so we have to find some force of will not to be lazy and not abrogate responsibility as stewards of capital. You kind of get the investment outcomes that you deserve. I mean, there are so many portfolio managers, index managers, that are lazy—it’s lazy investing to some degree. I’m so disappointed when progress is right there in front of you and then it’s delayed dramatically. So I guess it’s a matter of looking for companies and investors, managers and individuals that have the force of will to do what needs to be done, and not just point to iffy ESG data. And so, I feel like sometimes my job when I get out there, is just to light people up and say okay, “Look what we can do!” We have the technology, we have the capital, we have the intelligence, we have the proof and we have the research! We have everything we need to accelerate healing, to repair the damage. We just have to know how to use it. We have to have the force of will. I hope that us collectively finding that happens before the boards of directors of existing pension funds and endowments retire or die because you know, for now, they’ve decided they’re gonna abrogate their fiduciary duty. We need to start really holding people responsible like we never did, frankly, on Wall Street, and we’re not doing it now in the world’s biggest pools of money. We’re not holding those boards accountable.

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You’ve mentioned to me that when making investment decisions, you can think more about economics than about finance. Can you comment on that?

Economics represents a high level framework and principled way of thinking. Finance is the implementation of economic theory, and when you invest, you want more information rather than less; you want to understand the material environmental, social and governance factors in an investment process. And so when you think about these principles of deploying capital for the optimal good, we think you have to use the discipline of sustainable investment and the strong knowledge that to have social impact you do not have to give up competitive economic return. Finance only shows you part of that picture.

That resonates. So why do you think it is that so many managers, possibly even most managers, completely eschew economics and focus only on finance?

In modern financial theory, what’s really ignored is externalities and negative externalities, and we can’t keep going in that direction. We have to have the true cost of those externalities built into our analyses. So Milton Friedman talking about the extent to which shareholder maximization is the key thing the companies have to do is just wrong. If you think of it in a vacuum, if you think of it as long-term reality, and if you think about shareholders and employees and customers altogether in a virtuous cycle, then you do maximize shareholder value by thinking more like a stakeholder in terms of investment.

Yeah, I think that’s the right way to look at the world, and so I have this thesis that economics is in the process of updating its principles of growth to include new ideas, so for example, if a new means of economic production isn’t advancing decarbonization, or dematerialization, or electrification, it isn’t likely to grow in the face of our serious, system-threatening risks. What factors do you think I am missing there?

Circular economy. What we need to ultimately have is a world where we don’t even have the concept of waste, and so we have to proactively design products and services that are not linear and that ultimately save the planet. So between circular economy thinking and broader long-term thinking about opportunity and innovation and social justice, and obviously climate and clean energy and health and wellness, all of our themes, these are actually critical to the future of society and certainly the capital markets. You can’t have a healthy society and healthy industry without healthy financial systems, so we need to rebuild the trust that’s been destroyed in our institutions, whether it’s government or the private sector or the financial sector. We need to rebuild trust and you can only do that with transparency and collaboration in my view.

You know people need to look again at Adam Smith’s earlier works where he talks about the theory of moral sentiments, and the fact that human beings as a species are incredibly interested in the circumstances of others. Today we just look inwardly instead of globally. That’s a mistake.

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As investors, as an industry, we make mistakes everywhere we look: We index instead of judging individual companies on their merits, we don’t think about social inclusion as much as we should, we just go with the incumbent economy instead of trying to make our theories more predictive and figure out what’s coming next. These are all mistakes and they all undermine the trust that you are now arguing we need to rebuild. So rebuild trust by being trustworthy, right?

That’s it. I really do try to base stuff that we do on principles rather than on rules and tactics. So we have our impact measurement framework, so it’s looking at all the sustainable development goals and finding a single common denominator among them, which for us is access. Access to water, to food, to healthcare. Access is what it’s all about, right? So if we think about that word “access,” you can deploy that into lots of different places. Now with our framework, we’ve deployed it in such a way that we created an algorithm to show our investors where they are getting access with their money or where they’re giving the world access with their investments.

What you said about boiling down the sustainable development goals to a common denominator was interesting to me because I find that trying to manage assets to those quickly becomes an exercise in hilarity, because so many solutions overlap and it’s like, well which one am I addressing here?

Well, that’s it, and we can parallel track all the SDGs [sustainable development goals], and we could call that a reasonable definition of impact. So now when we think about the Access Impact Fund, we are giving access to everyone, we are democratizing impact investing via this 40 act fund. That’s access to impact. And then if you think about access to investment ideas and insight, well, we give the whole world access to our thematic research. It’s all on the website out there for everyone. The idea of access is so important to us. With regard to thinking about global impact, that’s our guiding principle. This fund CCIIX is intended to give the world liquid access to global impact. And when you have guiding principles, then you can use that across everything you do.

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