New Labor Department rule puts 401(k)s at greater risk
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The largest asset owners and managers around the world are considering environmental, social and governance (ESG) factors in their investment decision making more than ever before, and yet U.S. regulators are moving in the opposite direction.

Last week, the U.S. Department of Labor (DOL) moved to finalize a new proposed rule that would limit employer-sponsored retirement plans from investing with ESG factors in mind. The proposal represents a concerted effort to block the progress toward ESG integration we’ve seen around the world, and thereby undermines investors’ ability to gauge risks and generate value in the U.S. market.

Since it was announced in July, the DOL’s proposal has faced a tidal wave of opposition from pension funds, money managers and investor organizations, including my organization, the United Nations-supported Principles for Responsible Investment (PRI), which represents over 3,000 global investors with more than $100 trillion in assets. In fact, more than 95 percent of the public comments on the DOL’s proposed rule opposed it. The PRI was among those that submitted a comment to the DOL, where we laid out the case for why the proposed rule would hurt rather than help American investors.

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First and foremost, the DOL’s proposal undermines the very goal the Department seeks to achieve in regulating the investments of American retirees. The DOL is responsible for protecting the retirement incomes of millions of Americans — and that means ensuring 401(k)s and pensions consider all material risks, including ESG factors. At its core, the DOL proposal reflects an outdated understanding of ESG integration.

What is most perplexing is that the DOL itself acknowledges explicitly in the rule proposal that ESG factors can create business risks and opportunities. The evidence is incontrovertible that climate change will have a material impact on our economy and on asset prices. And yet despite recognizing the impact ESG factors can have on the value of an investment, in proposing the new rule the DOL is actively trying to prevent investors from considering those factors in their investment decisions. Getting in the way of progress on the integration of ESG considerations is a risk to the U.S. pension market, but more importantly, a risk to U.S. savers.

Beyond the fundamentally flawed and contradictory foundation the rule is built on, the nuts and bolts of the proposal only make matters worse. The DOL’s proposal fails to provide clarity for fiduciaries and instead adds to their confusion regarding if and when ESG factors may be considered material. This is particularly problematic given the onerous process fiduciaries must undergo if they select an investment after applying the DOL’s long-standing “all things being equal test” and the questions raised by the DOL about the validity of that test.

With regard to the selection of funds with ESG mandates in defined contribution plans, the proposed policies add further confusion about the DOL’s understanding of the materiality of ESG factors, deny fiduciaries the opportunity to select the investment option that they believe to be the best from a risk and return perspective and could lead to additional costs for beneficiaries.

Taken together, these issues make it clear why pension funds, money managers and investor organizations like the PRI are urging the DOL to reconsider its proposed rule. Asset owners and managers around the world are calling on the DOL to make clear that fiduciaries should be considering material ESG factors such as climate change risks as part of their investment processes.

By ignoring the growing focus on, and evidence of, material ESG factors by investors and regulators around the world, the DOL has proposed U.S. investors take a significant step backward on responsible investing. This would not only hamper U.S. investors ability to compete in a global market in which ESG factors are increasingly shaping investment decisions and outcomes, but it would put the very people the DOL is meant to serve — American retirees — at greater risk.

Fiona Reynolds is CEO of the UN-supported Principles for Responsible Investment (PRI) which is a global organization of over 3,000 investors with more than $100 trillion in assets.