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January 08, 2016 at 12:16 PM
The next push in environmental, social and governance investing will come from retirement advisors following the Department of Labor’s new interpretive bulletin that replaced language warning fiduciaries away from such investments in 2008, according to Gregg Sgambati, head of ESG solutions for S-Network Global Indexes.
The first people impacted by the change will be lawyers, Sgambati said, as “it’s somewhat technical” and is still “being digested by investment managers and those who are involved institutionally.”
It’ll take some time to reach retail and individual investors, he said. “That will begin [with] the retirement plan sponsors or firms like Vanguard and T. Rowe Price and the others that have large retirement funds; once they start rolling out ESG into their platforms, then we’ll see the retail space changing its approach by wanting more information and wanting to understand it better,” forcing advisors to become more educated in this area, Sgambati said in an interview Friday.
“That will have wirehouses continuing to develop and build out their ESG practice.”
The DOL’s 2008 interpretive bulletin stated that considering “economically targeted investments,” or those that provide economic benefits in addition to financial ones they provide the investor, in retirement plans under the Employee Retirement Income Security Act “should be rare,” and that when they are used, they should be extensively documented to show they’re in compliance with “ERISA’s rigorous fiduciary standards.”
As investment analysis has improved since then due to better metrics and tools, the 2008 guidance has “unduly discouraged” fiduciaries from using ESG investments in retirement plans, according to the DOL.
“Environmental, social and governance issues may have a direct relationship to the economic value of the plan’s investment,” the department wrote in the 2015 guidance. “In these instances, such issues are not merely collateral considerations or tie-breakers, but rather are proper components of the fiduciary’s primary analysis of the economic merits of competing investment choices.”
Importantly, when considering investments that are “commercially reasonable” for the plan, fiduciaries don’t have to view them as “inherently suspect or in need of special scrutiny merely because they take into consideration environmental, social, or other such factors.”
Although economically targeted investments weren’t explicitly banned by the 2008 interpretive bulletin, it “gave cooties to impact investing,” as Labor Secretary Thomas Perez said in October.
Sgambati said the new bulletin “makes it easier for investment advisors in retirement plans and other types of ERISA plans to incorporate ESG or socially responsible investing themes into the investments.”
S-Network provides ESG rating tools for investment managers. “We want to see these types of ratings available on a retail investment platform,” he said. “We’re not there yet. Really the average retail retirement investor is going to look to their financial advisor or their retirement plan to provide them the information about this. That’s where the next evolution will be, when retirement plans start to make this part of their platform and start to talk to retail investors about the benefits of investing in these themes.”
Some of those benefits include returns that are at least as good as traditional investments and lower risk over time.
“Incorporating that in an investment [portfolio] is wise,” he said. “Retail advisors can share that story, but then they can also share that it works with values” the investor may be trying to satisfy. “There’s a lot written about the values of millennials and how they’re bringing their values to the conference room when they talk about how they’re going to invest, but smaller retail investors also have values. When they say, ‘I want to make an impact with my money and make my investments be good as well as have a good return,’ it’s up to advisors to show that you don’t have to give up anything necessarily to have good values.”
