IMPACT INVESTMENT STRATEGIES EXPLAINED

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1 April 2016 IMPACT INVESTMENT STRATEGIES EXPLAINED When your goal is to create not only profit but also a better world, figuring out which impact investment strategy is which may not be the toughest step but it could be the most important. For most individual or institutional investors seeking to invest for both profit and purpose what today is becoming widely known as impact investing -- these are encouraging times. For starters, more and more investors appear to be concluding that, in a broad sense, all investments can have some kind of impact negative or positive or somewhere in between. Indeed, it may be that the ways in which we invest (and spend) may significantly influence both the fabric and the consciousness of society. On top of that, and in contrast to the recent past, there are now many investment strategies and vehicles focused on helping the world and on offering clearer potential for portfolio success. (As you may recall, until about 20 years ago, there was essentially one way to invest for impact, a strategy called socially responsible investing, or SRI. As it happens, SRI was and often still is associated with so-called negative screening, -- an approach investors can use to screen out or avoid industries they find ethically questionable, such as alcohol, tobacco, firearms. As such, SRI has often been tarnished, fairly or unfairly, as a way for investors to ease their conscience rather than make a profit.) Any time there is greater choice in any arena, of course, terms and acronyms tend to proliferate, leading to a greater risk of confusion (as anyone shopping for a TV can attest: UHD? 4K? OLED?*). And, as it happens, more than a few investors have told us that sometimes they are not sure which impact strategy is which. What may add to the confusion is a gradual shift in meaning. In its traditional sense, impact investing refers to a distinct investment approach, which we describe below. More recently, however, a growing number of investors and financial institutions, including U.S. Trust, have begun using it in a more general sense, as an umbrella term for strategies seeking positive social, economic or environmental change. Our goal in this report, then, is to provide some clarification on the major strategies, including SRI and strategies maturing or emerging more recently, such as ESG and impact investing in the traditional sense. There are other, more narrowly focused strategies, such as faith-based investing, green investing and gender lens investing, but we will restrict our focus to the more broadly adopted field. We hope that this report will help you find the topic of impact investing less imposing and more of a worthwhile way to tap into current economic themes and invest according to your values. *Definitions: UHD- Ultra High Definition TV 4K- a display with 4,000 pixels of horizontal resolution OLED- Organic light-emitting diode Investment products: Are Not FDIC Insured Are Not Bank Guaranteed May Lose Value Please see back page for important information.

2 SOCIALLY RESPONSIBLE INVESTING (SRI) SRI has been in use since at least the 1800s, making it perhaps the original purpose-focused investment tool. In point of fact, SRI typically involves not investing. That s because SRI-focused investors often engage in negative screening, or avoiding investment in companies that profit from enterprises or products they find morally or ethically objectionable. In decades past, and to a lesser extent more recently, investors often avoided SRI s negative screening because they associated the strategy with certain limitations. Their primary concern: Avoiding companies in the same industry could affect portfolio profitability, diversification and risk control. However, when negative screening is accompanied by prudent investing and a focus on portfolio diversification*, that concern has little or no foundation. Indeed, you may find that SRI s negative screening is a better choice than, say, a more-nuanced ESG-focused strategy; or that only by combining a number of impact strategies can you find the stringent investment standards or return potential you are looking for. Historical Perspective: In many ways, socially responsible investing provides a historical perspective of important economic, social and environmental issues in the United States. Early SRI investors avoided companies that profited from slavery. In later decades, their targets included industries engaged in the war in Vietnam, apartheid in South Africa, and sweatshop labor worldwide. With overwhelming evidence now linking carbon production and climate change, hydrocarbon industries are now in the SRI cross hairs. ENVIRONMENTAL, SOCIAL AND GOVERNANCE (ESG) SRI MOMENT: Friends Fiduciary has existed since 1898 and, following the Quaker philosophies of peace, simplicity, integrity and justice, manages its assets following SRI guidelines. Source: Friends Fiduciary, a Quaker non-profit Organization, 2015 ESG-focused investing emerged several decades ago as a more inclusive form of impact investing compared to SRI. That s because ESG investors may look for companies to add to a portfolio rather than for those to screen out. ESG investors often score corporations on policies and practices related to the environment (a company that s reducing its carbon footprint, for example, might score higher than one that is not), social conditions (scoring based on, say, product or workplace safety) and corporate governance (accountability and disclosure). Companies ranking higher may become portfolio candidates. Indeed, this kind of scoring can help increase the number of investors using ESG data, as it did by more than 75% between 2013 and (Exhibit 1.) ESG ranking is typically carried out on a regular basis quarterly or annually -- as companies may score better or worse over time, prompting portfolio changes. Companies incorporating ESG factors may benefit from engaging in ESGrelated reporting, including the financial materiality of ESG factors, and reporting information consistently, using widely accepted reporting standards. (Exhibit 2.) As it happens, the broader investment community long viewed ESG as potentially bad for business. Yet that outlook is shifting, with historical evidence Exhibit 1: Using ESG Data Increased Bloomberg collects Environmental, Social and Governance (ESG) data from published company material and covers more than 11,000 companies with ESG data and more than 7,500 companies with executive compensation data in 65 countries. Source: Bloomberg Impact Report as of *Diversification does not ensure a profit or protect against loss in declining markets.

3 Exhibit 2: Key ESG Considerations for Companies ESG factors need to be communicated comparatively and consistently; lack of standardization must be addressed mounting that ESG can help the corporate bottom line and potentially produce returns that track or outperform broader markets. Leadership needed to break down silos between investor relations and sustainability functions to accelerate progress Reasons for this positive correlation vary. Companies that use sustainable resources may, for example, be able to lower outlays for raw materials. Those that reduce emissions or improve workplace or product safety may be less likely to face government fines or expensive lawsuits. Acting ethically may improve consumer loyalty and brand longevity. IMPACT INVESTING Demonstration of the financial materiality of ESG factors is crucial Source: United Nations EP Finance Initiative Report as of Sustainability manager-asset manager dialogues could provide a model for CEO-asset owner dialogues As we noted earlier, the meaning of impact investing has been undergoing a shift. It can be used as an umbrella term for a range of socially focused investment strategies. It may also refer to a specific investment strategy. What follows is a description of the latter. IMPACT MOMENT: Impact investors may seek to invest directly in companies or projects that have the potential to create positive social and environmental outcomes as well as positive financial returns. This kind of engagement is central to what U.S. Trust calls Impactonomics TM, or using impact investing to help both the economy and the broader community. As part of this process, investors may also monitor their investments, tracking how those companies or projects are progressing toward an impact goal, which in turn requires managements to report on their progress. The world won t get better by itself. We must set big goals and hold ourselves accountable every step of the way. Source: Dr. Sue Desmond- Hellmann, chief executive officer, Bill & Melinda Gates Foundation 2015 To that end, companies may agree to supply certain standardized metrics such as those defined by Impact Reporting Investment Standards (IRIS - an initiative of the Global Impact Investing Network, a nonprofit group focused on increasing the scale and effectiveness of impact investing). These metrics may relate, for example, to the volume of greenhouse gases emitted in production and delivery lines, the number of jobs created, the rise in employee income or the number of students sponsored in an educational program. Impact investors are usually interested in outcome measurements, in how they have contributed to durable change -- but often have to be satisfied with output measures, due to the challenges and costs of measurement. As for expected returns from impact investing, investors can fall into a range. The majority seek performance results that, for example, match or potentially outperform those of broader markets such as the Standard & Poor s 500-stock index. Other, so-called impact-first investors may be willing to sacrifice some or all financial performance and prioritize instead on social, economic or environmental returns. Impact-first investing begins with the intention to address a social challenge. Some investors do their impactfirst investing via program-related investments, or PRIs, from their nonprofit foundations. Others may use newer financial vehicles, such as social-impact bonds, or SIBs. (Exhibit 3.)

4 Exhibit 3: Pursuing Success Social Impact Bonds Money to invest in early interventions Lower spending on crisis interventions More early interventions Source: Wikapedia October 28, 2015 Whereas common types of bonds offer a fixed rate of return, repayment with SIBs can depend on the achievement of specified social outcomes. THEMATIC INVESTING Better social outcomes; fewer individuals requiring crisis interventions Some investors engaged in impact investing choose to focus on a particular theme or issue while seeking both profit and a better world. They look for clusters of issue areas where social or environmental needs create commercial growth opportunities. In most cases thematic investing is, almost by definition, top-down or macro investing. Themes can include clean water or energy, the empowerment of women and girls (or, more broadly, gender lens investing), aging populations, and the like. Thematic investing may be represented in the investment philosophy of one fund or a range of strategies, or it can be a house style as adopted by companies. U.S. Trust s approach to thematic investing is guided in large part by a concept we call A Transforming World. Under that banner are five main themes, People, Innovation, Markets, Government and Earth. (Exhibit 4.) These themes act as lenses, helping us look at the world and focus on and analyze information that we find useful. Using the themes can help us sidestep conventional thinking and a short-term viewpoint, by steering us toward investment opportunities that we think may arise within a few years or over a longer period. Exhibit 4: U.S. Trust A Transforming World Source: U.S. Trust 2016 Investment Themes A Transforming World. PRINCIPLES FOR RESPONSIBLE INVESTMENT (PRI) We believe that environmental, social and corporate governance issues can affect the performance of investment portfolios, to varying degrees across companies, sectors, regions and asset classes, and through time. As a reflection of this belief, U.S. Trust signed the United Nations supported Principles for Responsible Investment. 1 The PRI initiative is considered the leading global network for investors and members of the financial community who are committed to considering environmental, social and corporate governance factors in their investment practices. Signatories agree to consider ESG factors in their investment analysis and ownership policies. They agree to ask the companies they invest in to disclose any ESG-related issues they may be facing. And they promote 1 The PRI was signed in November 2014 by Bank of America s Global Wealth Management businesses, which includes U.S. Trust.

5 acceptance of PRI within the investment industry. In general, we recognize that applying these Principles may better align our clients with broader objectives of society. CHOOSING A STRATEGY OR STRATEGIES If you re a novice at investing to (ideally) change the world, we hope this paper has helped you understand impact investing in general and also how SRI, ESG and thematic investing in particular fit into the broader impact picture. We would argue that these and other approaches tend to work most effectively when they are viewed not as one being morally or ethically superior to another (or to a strategy that is not clearly impact-related) but rather from the perspective of how they fit with your overall financial goals and personal values. You may find that screening out companies is the most effective way to invest according to your beliefs -- in which case you could call it positive screening. Or that thematic investing captures economic trends you see in the markets while also addressing social issues that matter to you. In other words, give consideration to a range of these and other impact approaches and find what is most suitable for you. To learn more about Impactonomics and how the approach might fit into your investment strategy, talk with your U.S. Trust advisor. Jackie VanderBrug, Managing Director U.S. Trust, Bank of America Private Wealth Management 8

6 This report is provided for informational purposes only and was not issued in connection with any proposed offering of securities. It was issued without regard to the specific investment objectives, financial situation or particular needs of any specific recipient and does not contain investment recommendations. Bank of America and its affiliates do not accept any liability for any direct, indirect or consequential damages or losses arising from any use of this report or its contents. The information in this report was obtained from sources believed to be accurate, but we do not guarantee that it is accurate or complete. The opinions herein are those of U.S. Trust, Bank of America Private Wealth Management, are made as of the date of this material, and are subject to change without notice. There is no guarantee the views and opinions expressed in this communication will come to pass. Other affiliates may have opinions that are different from and/or inconsistent with the opinions expressed herein. All Exhibits are based on historical data for the time period indicated and are intended for illustrative purposes only. This publication is designed to provide general information about economics, asset classes and strategies. It is for discussion purposes only, since the availability and effectiveness of any strategy are dependent upon each individual s facts and circumstances. Always consult with your independent attorney, tax advisor and investment manager for final recommendations and before changing or implementing any financial strategy. Other Important Information Past performance is no guarantee of future results. All sector recommendations must be considered in the context of an individual investor s goals, time horizon and risk tolerance. Not all recommendations will be suitable for all investors. Social impact investing is a relatively new and evolving investment opportunity which is highly speculative and involves a high degree of risk. An investor could lose all or a substantial amount of their investment. Investing in Social Impact Bonds is a new and evolving investment opportunity which is highly speculative and involves a high degree of risk. An investor could lose all or a substantial amount of their investment. There is no secondary market nor is one expected to develop for these investments and there may be restrictions on transferring such investments. The specific terms of any individual offering may provide for substantial or total loss in the event that specific targets are not met and must be carefully reviewed with the various potential outcomes carefully considered. Investments focused in a certain industry may pose additional risk due to lack of diversification, industry volatility, economic turmoil, susceptibility to economic, political or regulatory risks and other sector concentration risks. U.S. Trust operates through Bank of America, N.A., and other subsidiaries of Bank of America Corporation. Bank of America, N.A., Member FDIC. This report may not be reproduced or distributed without prior written consent Bank of America Corporation. All rights reserved. ARPNKHNW 04/2016 8