INSIGHT by Ceres
| Major pension funds and other fiduciaries representing millions of beneficiaries oppose a new proposed rule by the U.S. Department of Labor that would prevent fund managers from adequately considering environmental, social and governance (ESG) risks in their investment decisions. At a time when the climate crisis looms large as another systemic risk upending lives and causing widespread damage, pension fund managers say the proposed rule runs counter to global economic and market trends.
“The evidence is clear—and building daily—that the effects of a changing climate may pose financial risks to our infrastructure, both public and private,” said Fiona Ma, California State Treasurer. “What is missing is the full-throated acknowledgment that such risks must be institutionalized in our investment policies and decisions. The proposed rulemaking leads backward on this front, not forward.”
Investors managing billions of dollars in pension funds covered by ERISA, which includes most corporate defined-benefit plans as well as defined-contribution plans such as 401(k) plans, describe the proposal as harmful. They say it is likely to impair their ability to consider the short and long term financial risks posed by rising incidence of extreme weather, water shortages and human rights abuses in performing their investment analysis and allocations. The rule also would likely reduce the availability of ESG funds at a time when investors are clamoring for environmentally and socially responsible investments, and when a renewed focus on sustainable economies and earth systems are on the rise.
On June 30, the DOL’s Employee Benefits Security Administration proposed the Financial Factors in Selecting Plan Investments rule (1210-AB95) which would change standards allowed for considering material ESG risks, differentiating them from other financial information covered by the Employee Retirement Income Security Act (ERISA). The proposed rule specifically requires that ERISA plan fiduciaries “select investments and investment courses of action based solely on financial considerations relevant to the risk-adjusted economic value of a particular investment or investment course of action.”
The proposed rule would place a significant burden on fiduciaries who offer ESG funds as options in their retirement fund and could also affect the broader pension fund market by setting an unwelcome precedent that runs counter to the mainstream U.S. and global practice of integrating ESG factors into investment decisions.
Illinois State Treasurer Michael W. Frerichs said “The DOL proposal ignores the fact that funds that use ESG considerations have outperformed the market. As a fiduciary I believe it is my duty to consider material and systemic risks like those posed by the climate crisis, water scarcity and ineffective human capital management.”
The DOL proposes these restrictions at a time when ESG investing is rapidly growing and more fully embraced by mainstream global finance and investment organizations. Sustainable investing assets in the U.S. reached $12 trillion in 2018, up 38 percent from 2016, according to a recent US SIF Foundation’s Trends report. Moreover, ESG investments have been outperforming broader index funds so far in 2020, according to studies by S&P and Morningstar.
A 30-day comment period on the proposed rule began June 30. To date, 716 investors and others have filed comment letters with the DOL in response, although the DOL has not yet made public the content of the comments. Ceres, the sustainability nonprofit organization, which works with a network of 175 investors with a combined $30 trillion in assets under management, also submitted a comment letter in opposition to the proposed rule.
Climate change provides some of the strongest evidence for the financial impacts and risks of ESG issues. Frequent extreme weather events, exacerbated by climate change, have led to mounting economic impacts. Since 1980, the U.S. has sustained more than 265 climate-related extreme weather events with losses exceeding $1 billion, causing total costs exceeding $1.77 trillion, according to research compiled by Ceres.
Moreover, the necessary economic recovery and transition underway to a net-zero emissions economy presents both investment risks and opportunities based on how well investors and companies adapt to that transition.
“The COVID-19 pandemic has been a devastating reminder of how quickly lives and livelihoods can suffer and economies can falter when systemic risks are ignored,” said Ceres CEO and President Mindy Lubber. “Investors understand climate change is a systemic risk that poses similar deadly and drastic consequences — including price volatility and asset value losses — across all sectors critical to our economy.”
Investors, as well as Ceres, have asked the DOL to withdraw or substantially modify the proposed rule to acknowledge that ESG issues may, in fact, pose short, medium and long term financial risks, and that when they do pose such risks, ERISA compels fund managers to treat ESG issues as economic considerations. Investors have also asked the DOL to extend the comment period and additionally study and consider the underlying facts and issues surrounding sustainable ESG investing.
The DOL comment period closes on July 30 and the agency is expected to make a decision on the proposed rule later this year.
Ceres is a sustainability nonprofit organization working with the most influential investors and companies to build leadership and drive solutions throughout the economy. For more information, please visit ceres.org and follow @CeresNews.