Labor Department sends rule curbing ESG retirement investments to White House

October 15, 2020.

The U.S. is finalizing a controversial rule that would make it more difficult for retirement plan managers to incorporate environmental, social and governance factors into their investment decisions.

The proposal, which would amend the Employee Retirement Income Security Act of 1974, was sent to the White House for review on Wednesday, a key step toward implementation of the regulation.

Called “Financial Factors in Selecting Plan Investments,” the agency’s proposal would significantly constrain ESG in retirement funds by requiring fiduciaries “to select investments and investment courses of action based solely on financial considerations relevant to the risk-adjusted economic value of a particular investment or investment course of action.” 

Labor Department officials have argued that ESG funds often entail higher fees and lower returns, stiffing retirees in the name of broader social and political goals. 

“Given the increase in ESG investing, the Department is concerned that, without rulemaking, ESG investing will present a growing threat to [Employee Retirement Income Security Act] fiduciary standards and, ultimately, to investment returns for plan participants and beneficiaries,” the department argued. 

The rule has been broadly condemned by investment firms, many of which have embraced ESG investing in recent years. 

When the Department of Labor asked the public for feedback on the proposal during a shorter-than-normal comment period this summer, 94% of investment-related firms and organizations that submitted comments — including asset managers and owners, financial advisors and pension plans — opposed the rule. 

In the U.S., 74% of institutional inventors believe investments that incorporate ESG perform just as well or better than investments that do not, according to a study shared Wednesday by Global Asset Management.

That number is even higher overseas, with 97.5% of Canadian, 96% of European and 93% in Asian investors saying ESG investments are just as profitable or more profitable than standard ones. 

“The Department of Labor’s approach is out of step with the increasingly mainstream practice of incorporating ESG considerations into investment research, and this analysis reinforces that reality,” said Head of Policy Research Aron Szapiro in July. “The rule as proposed would take away important options from retirement investors and deny them access to analysis on mitigating ESG risks.”

Critics of ESG investing, including the Department of Labor, have pointed to unclear ratings criteria as evidence of the concept’s risk.  

“There is no consensus about what constitutes a genuine ESG investment, and ESG rating systems are often vague and inconsistent, despite featuring prominently in marketing efforts,” the department said. 

In September, the World Economic Forum’s International Business Council pitched a global set of standards for determining ESG compliance, a potential step toward a more uniform sustainability framework. 

--Additional reporting by Allie Ciaramella