Investors are increasingly looking to incorporate a broader and more nuanced set of considerations into their portfolio construction and investment analysis. For some, this is a way to achieve the most robust returns, but for many others, there is a desire to align their investments with their values and interests. Today, roughly 40% of millennials engage in some form of impact investing, compared to 20% of baby boomers, highlighting a significant shift in investment priorities (Ritholtz, Darabi1).
When an individual is making investment decisions for themselves, they can decide how and when to consider values in investing. The story is often different for fiduciaries and trustees, who make investment decisions on behalf of trust beneficiaries. An individual can choose to sacrifice returns or accept additional risk for their portfolio. A trustee is required to invest trust assets in the best interest of the beneficiaries as defined by applicable state law – except where the trust document or state law specifically authorizes the trustee to consider additional factors.2
Trust fiduciaries must, therefore, understand the full investment landscape, the terms of the specific trust and the scope of the relevant law and must invest within those parameters. Subject to that mandate, they can work with grantors, beneficiaries and other stakeholders to determine whether and how consideration of values and/or a desire for investments to impact non-investment outcomes may also be part of the investment decision-making process.
Application in the Current Environment
Modern trust documents often give trustees a greater level of discretion, especially around investments, than older documents do. This has allowed trust fiduciaries to invest in newer investment formats such as private equity, hedge funds, private credit, venture capital and direct private deals.3 The documents can also be (but are not always) flexible enough to allow fiduciaries to explore values-aligned investing, where grantors and beneficiaries want trust investments to be consistent with their own philosophies and values.
In addition, a growing number of states are taking action to allow a greater range of investment considerations for fiduciaries. However, laws enacted to assist trust fiduciaries in the absence of clear trust language differ from state to state. For example, Delaware allows trustees to consider both financial needs and beneficiaries’ personal values, which may include broad-based sustainability or impact considerations. New Hampshire permits trustees to engage in investment strategies that align with beneficiaries’ social, environmental or governance objectives, regardless of investment performance. Therefore, trustees must be mindful of jurisdictional rules and the trust document’s guidance.
Incorporating Family Preferences, Sustainability and Impact into Trust Investment Decisions
Given the uncertain landscape for existing trusts, trustees are well advised to follow a clear process when determining whether and how to consider values and impact as part of investment decision-making. This four-step process is often a good starting point:
- Step 1: Identify the parameters allowable by the governing trust instrument and state law (as discussed above).
- Step 2: Identify the concerns and/or ambitions of the grantor (if they are still alive or left a clear indication of their wishes), current beneficiaries, remainder beneficiaries and the family. Do they align with each other or do differences among stakeholders exist?
- Step 3: Determine whether, in this specific situation, any type of consideration of values is allowable and, if so, appropriate.
- Step 4: Set out an investment plan that shows a clear understanding of the distinct types of values-aligned or purposeful investing, identifying which will be considered for the trust at issue.
A Clear and Well-Documented Process for Family Trustees and Fiduciaries
Step 4 is often the most difficult and most technical part of the process, as the investment plan needs to be clear, measurable and have a reasonable chance of achieving its goals—both investment and impact.
Trustees need to consider that investments that come with a “label” need additional research and vetting. The financial industry has created labels for some investment funds that can create noise and confusion. Many conflate Sustainable and Impact Investing, two distinctly different strategies, because of the lack of popular understanding. For us at Brown Advisory, “Sustainable Investing” focuses on identifying securities that address or benefit from specific business or issuer risks and/or opportunities arising from natural resource, social and economic, climate and/or governance issues. As a result, these investments should have a financial or performance advantage. The impact a particular investment has on addressing areas of concern is not a focus of sustainable investing, although impact may result from these investments. Impact Investing targets both financial returns and specific social or environmental outcomes, often involving private investments, such as financing for renewable energy development. These investments aim for positive social or environmental impact while generating financial returns—these two objectives operate in parity.
Trustees are advised to clearly document the investment plan in writing. A clear process they can follow is:
- Start with a Fundamental Investment Analysis: Targeting risk-adjusted financial returns while considering additional factors.
- Benchmark Investments Without Qualification: Measuring core portfolio investments against standard market index benchmarks over full market cycles, being mindful of concentration risks.
- Create Clear Communication Tools to Share with Stakeholders: Using an Investment Policy Statement (IPS) to communicate clearly with beneficiaries and investment advisors. Incorporating alignment with a family mission or values statement that articulates impact themes of interest can be helpful.
- Consider Investment Location: If investments do not meet financial return standards and trust documents or governing law lack specific guidance, consider locating the investment in personal or philanthropic pools (and not in the trust portfolio).
- Engage in Regular Beneficiary Education: Continuously educating beneficiaries on investment approaches, financial results and sustainability or impact results regularly.
Grantors Can Ensure New Trusts Allow—or Require—Trustees to Align Investments with Their Values
For trusts that have not yet been created or funded, prospective grantors can add language giving trustees broader discretion in making investments by permitting the consideration of specific investment considerations as well as a beneficiaries’ non-financial goals. This involves broadening investment powers by avoiding vague or overly restrictive language and ensuring that grantors clearly state their intentions. The powers given to the trustee should be tailored to governing law of the trust to allow for the clearest understanding and flexibility. This is not yet standard for most attorneys, however, so it is typically incumbent upon the grantor to ask for this to be included and to review any language that was added at their request. Additionally, expressing family goals for investments that address a non-investment objective, such as environmental and social impact or a specific interest of a family, such as investments related to the source of the family wealth, can be incorporated in family mission or values statements. These non-binding, instructive documents can provide trustees with additional guidance. Moreover, giving consideration to the trustee selection is important to create close values alignment or a process to achieve such mutually understood investment positioning. With the rise of investments that can deliver both a financial return and create a desired and specific impact, the task of investing trust portfolios now requires a thoughtful process whereby decisions made are applicable to multiple stakeholders and/or generations.
The role of a trustee is evolving alongside changes in investment landscapes and generational values. By following a thoughtful and inclusive process, trustees can navigate these complexities and meet the varying needs of the beneficiaries, balancing financial returns with broader social and environmental outcomes.
The views expressed are those of Brown Advisory as of the date referenced and are subject to change at any time based on market or other conditions. These views are not intended to be and should not be relied upon as investment advice and are not intended to be a forecast of future events or a guarantee of future results. Past performance is not a guarantee of future performance and you may not get back the amount invested.
Any accounting, business or tax discussion contained in this communication is not intended as a thorough, in-depth analysis of specific issues, nor a substitute for a formal opinion, nor is it sufficient to avoid tax-related penalties. Brown Advisory does not render legal or tax advice. Prior to making an investment decision, a prospective investor should consult with their own legal, tax, accounting and other advisors to determine the potential benefits, burdens and other consequences of such investment.
Private equity investments are characterized by a high degree of risk, volatility and illiquidity due, among other things, to the nature of the investments. A prospective investor should thoroughly review the Offering Materials pertaining to any investment, and carefully consider whether such an investment is suitable to the investor’s financial situation and goals. Investors should have the financial ability and willingness to accept the risks and lack of liquidity that are characteristic of the investments described in the Memorandum pertaining to an investment opportunity. No assurance can be given that any such opportunity’s investment objectives will be achieved or that investors will receive a return of any of their capital.
Hedge Funds involve complex tax and legal structures. Investment in any particular Fund or hedge funds, generally, is only suitable for sophisticated investors for whom such an investment does not constitute a complete investment program and who fully understand and are willing to assume the risks involved in such investment. Impact investments are made with the primary objective to generate positive social and environmental impact. While financial returns are also an objective of impact investments, impact investments will vary in levels of financial risk and the targeted level of financial return based on the impact the investment is seeking to achieve. Impact investment considerations will vary by investment style, sector/industry, market trends and client objectives. Some impact investments may create a positive impact at time of investment, where others will seek to create a positive impact at some point in the future. Clients may seek to leverage impact investments as part of a broader effort to invest according to their values. Investments selected for purposes of generating positive, social and environmental impact may perform differently than as forecasted due to the factors incorporated in the analysis of the investments. There is no guarantee of positive impact nor financial return. Efforts to measure impact will vary by the investment’s objective, sector/industry, availability of data and client directed tools of measurement. There is no assurance that data will be accurate, complete or easily comparable to other investments.
Sustainable investment considerations are one of multiple informational inputs into the investment process, alongside data on traditional financial factors, and so are not the sole driver of decision-making. Sustainable investment analysis may not be performed for every holding in every strategy. Sustainable investment considerations that are material will vary by investment style, sector/industry, market trends and client objectives. Certain strategies seek to identify companies that we believe may be desirable based on our analysis of sustainable investment related risks and opportunities, but investors may differ in their views. As a result, these strategies may invest in companies that do not reflect the beliefs and values of any particular investor. Certain strategies may also invest in companies that would otherwise be excluded from other funds that focus on sustainable investment risks. Security selection will be impacted by the combined focus on sustainable investment research assessments and fundamental research assessments including the return forecasts. These strategies incorporate data from third parties in their research process but do not make investment decisions based on third-party data alone.