Microfinance has become an increasingly popular investment option for those looking to generate social impact alongside financial returns. By providing small loans and other basic financial services to underserved populations like women and low-income entrepreneurs in developing countries, microfinance helps empower individuals and grow local economies. However, finding the right microfinance investment can be challenging for individual investors. This article will explore the landscape of microfinance investment companies, and provide tips on how to invest in microfinance efficiently.
Understand the range of microfinance investment options
There are various ways individual investors can gain exposure to microfinance, each with their own pros and cons. Direct microlending platforms like Kiva allow investors to choose specific borrowers to fund, but loans are zero interest. Microfinance investment funds pool investor capital to provide debt financing to MFIs, offering market-rate returns but less transparency. Equity investments in publicly-traded MFIs like Compartamos can provide higher returns at the cost of increased risk. Investing in structured products like microfinance securitizations are an option, but have less liquidity. Considering the mix of financial and social objectives, it’s important for investors to understand this landscape before investing.
Evaluate risk-return profile and social impact
With the variety of microfinance investment vehicles available, investors need to assess the risk-return profile and social impact created by each option. For instance, direct microlending often has very low defaults but zero financial returns, while equity investments can produce higher returns but with greater volatility. The social impact also varies – investing in an MFI serving thousands of women entrepreneurs creates more impact than funding a few individual borrowers. Investors should decide how much risk they are willing to take and what level of social impact they hope to achieve before selecting a specific microfinance investment vehicle.
Diversify across geographies and institutions
Like any investment sector, diversification is key to managing risk in microfinance. Investors should aim to diversify across geographies and institutions. Opting for a fund that invests in MFIs across multiple emerging markets helps mitigate country-specific risks. Diversifying across different MFIs protects against overexposure to any single institution. Blending direct microlending with fund investments also provides diversity. Limiting exposure to 5-10% of one’s overall portfolio is recommended for individual investors new to the microfinance asset class.
Utilize investment vehicles that provide transparency
Microfinance investments can often seem like a black box to individual investors. Utilizing investment vehicles that provide transparency into where your capital is deployed can help overcome this. Many microfinance investment funds provide geographical and institutional breakdowns of holdings, and some disclose the underlying MFI loan portfolios. Direct microlending platforms let you choose specific borrowers. Seeking out transparent vehicles enables better understanding of risk and impact.
Invest for the long term
As with other forms of impact investing, microfinance investments often require a long-term outlook to realize financial and social returns. MFIs need time to deploy investor capital in the form of loans and grow their operations. Exit opportunities may be limited, especially for minority equity positions. Investors should be prepared to remain invested for 5-10 years. An investor with a short time horizon or desire for liquidity may be better suited to other asset classes.
Microfinance investment can be rewarding for investor portfolios and local communities when executed prudently. Following the strategies above can help investors access this emerging asset class efficiently. Partnering with a dedicated microfinance investment advisor can also help navigate what can be a complex sector for individual investors. By taking the right approach, microfinance investing can generate sustainable financial returns alongside tangible social impact.