ESG Investments Balance Duty with Demand

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ESG investments serve many masters.  Are ESG investments “good” for retirement plan participants?  Are ESG investments good for the environment?  And are ESG funds’ investment objectives aligned with the obligations of retirement plan committees and fiduciaries to serve the best interests of these participants?  It is difficult to say, but the trend is clear:  In coming years, demand for ESG funds in retirement plans is bound to increase.

The biggest wealth transfer in history is about to happen over the next three decades as Gen X’ers, millennials, and Gen Z’ers may inherit some $70 trillion from their parents and grandparents.  Thus, it’s important for financial professionals and retirement plan fiduciaries to understand how these generations differ from their predecessors.

One of the biggest differences?  Many Gen X’ers, and particularly millennials and Gen Z, are socially conscious investors, according to a recent article.  They evaluate investments through the lens of ESG.  According to TheStreet, that means:

  • Environmental. Is the company a good steward of the natural world?
  • Social. Does the company treat its community, suppliers, customers, and employees with respect?
  • Governance. Are the company’s leadership, executive pay, shareholder rights, internal controls, and audits all consistent with the highest expectations?

What does this mean for retirement plan participants?  Even when offered inside of a retirement plan, ESG investments may not always be in line with a participant’s investment goals.  So fiduciaries have an obligation to educate participants on that fact, and encourage them to consider several factors, including performance.  In short, it is retirement plan committees’ and fiduciaries’ responsibility to educate participants on the potential impacts of investing in ESG investments.

ESG investment rules are under review as the current administration seeks to alter policy.  Retirement plan committees and fiduciaries should pay attention to Department of Labor guidance.  However, it is critical to understand that guidance can change as executive branch administrations come and go.

Nonetheless, fiduciary obligations related to the risks to plan participants and sponsors should be unwavering, regardless of government policy.  To that end, article asserts the following:

  • Using an ESG investment as the Qualified Default Investment Alternative (QDIA) in a retirement plan heightens liability risk exposure for retirement plan committees and plan sponsors;
  • Leveraging a traditional fund menu with investment options from a variety of asset classes has traditionally been prudent under ERISA; and
  • Plan fiduciaries who want to offer ESG investments in their plan may do so, in select numbers.  Retirement plan advisors should document why these are viable investments, and the ESG funds should be benchmarked regularly for performance and reasonableness of fees.

In addition, retirement plan committees and fiduciaries should, when applicable, educate themselves and rely on input from the plan’s financial professional.  It’s vital to view ESG options as a complement to the existing fund lineup.  Participants should also receive proper education on the impact of ESG investments.

While there is clear demand for ESG funds from retirement plan participants, committees and plan fiduciaries should seek to balance that demand with prudent investment offerings.


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