The U.S. Department of Labor published proposed rules that would prohibit ERISA plan fiduciaries from investing in ESG funds if the “underlying investment strategy of the vehicle is to subordinate return or increase risk for the purpose of non-financial objectives.”
“Private employer-sponsored retirement plans are not vehicles for furthering social goals,” said Secretary of Labor Eugene Scalia in announcing the proposal.
According to the release on the DOL website, the proposal is designed to clear up confusion from previous sub-regulatory guidance and make it clear that plan managers have a duty to prioritize risk and return over non-financial benefits.
The proposal includes five core additions to the Employee Retirement Income Security Act (ERISA) regulations:
- Codify that ERISA requires plan fiduciaries to select investments based on financial considerations relevant to the risk-adjusted economic value;
- Provide that compliance with ERISA prohibits fiduciaries from subordinating retirement income and financial benefits under the plan to non-pecuniary goals;
- Require fiduciaries to consider other available investments to meet their prudence and loyalty duties under ERISA;
- Acknowledge that ESG factors can be pecuniary factors, but only if they represent material economic risks or opportunities; and
- Reiterate the Department’s view that ERISA prudence and loyalty provisions permit the use of social-benefit funds, or with ESG considerations in the title, within plans (such as 401k plans), but only if they meet the same performance standards as non-ESG funds.
Outlook: The rules are likely to be controversial within the investment management industry. BlackRock, for example, has substantially increased its focus on ESG factors, including voting policies. Overall, the proposed rule is likely to impact the debate on whether ESG issues constitute risks to long-term value. The other consideration will be the 2020 election. The proposed rule likely will not be finalized within the next 60 days, making it vulnerable to immediate repeal by a Democratically-controlled Congress under the Congressional Review Act.