Labor Finalizes Controversial ESG Rule

The Labor Department released a final rule  Friday that updates and clarifies its plan to provide clear regulatory guideposts for fiduciaries of private-sector retirement and other employee benefit plans in light of recent trends tied to environmental, social and governance (ESG) investing.

The amendments, according to Labor, require plan fiduciaries to select investments and investment courses of action based on pecuniary factors —  i.e., any factor that the responsible fiduciary prudently determines is expected to have a material effect on risk and/or return of an investment, based on appropriate investment horizons that are consistent with the plan’s investment objectives and funding policy.

Labor’s “rulemaking is controversial because many have viewed it as treating ESG investments as being suspect, when in fact more and more data point to [their] material benefit to investment performance,” George Michael Gerstein, a partner at Stradley Ronon in Washington, told ThinkAdvisor in an email.

See: DOL’s ESG Proposal Blasted in Public Comments

The final ESG rule “appears to provide fiduciaries greater flexibility in utilizing ESG strategies, including selecting ESG funds in 401(k) plan lineups,” Gerstein said. “DOL attempted to address some of the concerns raised in the comment letters but compliance risk will remain an issue” with this final rule.

Aron Szapiro, Morningstar’s director of policy research, said the research firm “did not think there was a problem that needed to be solved by putting more hurdles on plan sponsors from considering ESG investments,” according to a statement sent via email.

To the contrary, he said, “we wanted to see clarifications that would encourage plan sponsors to consider ESG data as they set their plan lineup.”

Szapiro added: “We don’t think this rule addresses any issues investors face. Although it does not bar plans from considering including ESG strategies, it will make it harder for investors to access strategies that consider long-term sustainability.”

Furthermore, “Since this is an increasingly mainstream consideration, the rule creates risks that 401(k) investors will be left behind,” he explained.

“Finally, the DOL retained the Qualified Default Investment Alternative provisions,” Szapiro said. “While the changes they made are somewhat helpful, this part of the rule is also out-of-step with embracing ESG considerations many professional asset managers now view as material.”

More DOL Details

Labor’s final rule amends the Department’s longstanding investment duties regulation, first issued in 1979, to codify a clear regulatory structure for considering investments for ERISA plans.