Pension scheme trustees, investment consultants and asset managers face tough new regulatory requirements that will compel them to generate, process and publish reams of comprehensive data relating to climate change, carbon emissions, stewardship and other ESG factors.
The bill for this extra work ultimately ending up with employers or scheme members, but those attending a recent Corporate Adviser roundtable debate on the issue were optimistic that these wide-ranging changes would deliver benefits that would outweigh their cost.
New regulations requiring schemes to publish both a Statement of Investment Principles (SIP) and an Implementation Statement (IS) stop short of mandating an investment strategy for schemes. But they do require them to publish information on what action they are taking to address ‘financially material’ ESG factors such as climate change.
Alongside this they will also have to detail the extent to which members’ views on a whole range of ESG factors have been taken into account when constructing their investment strategy.
Round table delegates considered how the industry could move towards best practice in ESG implementation reporting.
Willis Towers Watson sustainability specialist Shahrazad Khan agreed implementing both the SIP and the related IS will be time-consuming and costly challenges for the industry. But she
said this effort should not obscure the fact that these new regulations have the potential to deliver concrete benefits
for schemes.
“There are a lot of hurdles to improve the data reporting around ESG. But it has the potential to deliver better outcomes for members and also improve engagement levels,” she said.
LGIM senior sustainability analyst Iancu Daramus said the new data will be a useful tool for getting members more interested in their own retirement savings,
particularly if they can compare the carbon footprint of different investment strategies.
He said: “People tend to be far more engaged about issues like fossil fuels than they are about pensions.”
Getting more granular data on a whole range of ESG issues should make people more engaged with DC pensions and help boost savings levels, he argued.
Engagement through ESG
Lane Clarke & Peacock senior investment consultant Beenesh Googoolye agreed this can be an important engagement tool, particularly among younger savers. He argued that in the past there has been scepticism in parts of the industry as to whether ESG-focused investments actually do deliver better member outcomes.
Delegates agreed though that these attitudes were changing.
Googoolye said that ESG issues were becoming an increasingly important issue for both trustees, and investment managers, a trend he expects to continue.
However while those attending the debate said that there was a need for greater ESG scrutiny, there wasn’t a clear view on how costly implementation would be, nor who would bear the brunt of this additional governance and regulation.
Hymans Robertson head of responsible investment Simon Jones pointed out there are clearly costs involved for both trustees and asset managers in gathering and collecting the data necessary for statement preparation. His view is that at this stage it is not clear whether some of these costs will be passed on to members. But he feels it would be wrong to suggest that these costs are disproportionate.
“To my mind this is a cost worth paying. The ultimate objective of these new requirements is to improve outcomes by ensuring that trustees have more complete information on market risks and opportunities and can devise better investment strategies,” he said.
He says costs will hopefully come down as the industry works to streamline and standardise the way a lot of this data is prepared.
Those attending the panel agreed that in many ways this information should be provided as a matter of course to scheme trustees.
Jones said this ESG information should enable trustees and asset owners to challenge managers where necessary. “It will give them a more complete understanding of what investment managers are doing, it will enable them to ask different and better questions, and should make this a more constructive relationship,” he said.
Who bears the cost?
Barnett Waddingham associate and policy and strategy leads Amanda Latham said it is not clear at this stage exactly where the costs of this new initiative would fall, and this may vary depending on the size and type of pension scheme.
However she added: “The real benefit will be in how this data is used. Are trustees taking this information and using it to improve governance and change investment strategies? Or is this just a tick-boxing exercise for compliance?”
She said if the former is being used then the benefits could easily outweigh the cost, but not if trustees were simply going through motions in order to meet minimum regulatory standards.
Latham cited an example of how this data can help improve investment strategies. These may be quite small changes that could potentially deliver significant rewards. For example she pointed out the extent to which the FTSE100 index is overweight in fossil fuels. She said this is mainly due to the way this index is constituted. But including a carbon tilt, away from these industries could significantly improve a scheme’s ESG rating, help control risk and add value for investors.
While the present challenge is gathering and presenting this data, the real opportunity comes in how trustees use this information in future.
Jones argued that there is a key role for investment consultants to play here in supporting trustees and so adding value.
Engaging members
When it comes to improving engagement, Jones pointed out that this covered more than just engaging scheme members.
He says these new regulations should also promote better engagement between trustees and their investment managers and also greater engagement between investment managers and the companies they ultimately invest in.
Greater disclosure of information and publication of data should foster better decision-making through both of these channels.
Buck principal and senior investment consultant Celene Lee argued that the very process of collecting and capturing this data should help change behaviour, both at an individual and corporate level.
She cited the example of NatWest which recently devised techniques to measure an individual’s carbon footprint. Once people know this information they tend to alter their behaviour to lower the score, she said.
The same principles apply to pension investments on a wider scale. What gets measured gets managed. She said those schemes that embrace the spirit as well as the letter of these new regulation will derive the most benefit.
Lee pointed out that the regulatory regime isn’t happening in a vacuum but reflects wider global shifts in policy, regulation and consumer awareness about climate change. The pension industry has no option but to move with this changing broader agenda, she argued, adding that the ramifications for different pockets of the industry would be far-reaching
Passive versus active –
“The world is changing around us. But this shift will change other debates within the investment industry, such as the active versus passive debate, and the decision whether to invest in listed or private markets.”
As she points out those investing in unlisted investments may have more influence on how these organisations are run. This can mean more attractive ESG characteristics. “Over time this focus on ESG will change the way capital flows,” she said.
“Governance is part of this process – all schemes clearly need to comply with these new requirements. But some will go further and this has the potential not only to deliver better outcomes for members over time but bring about societal change.”
Jones added: “Asset managers need to have more information to hand. They world is changing and it is important to not lose sight of why this legislation has been introduced, it is for better outcomes: be they financial, societal or environmental.”
Khan agreed it is crucial not to lose sight of these longer-term benefits. “It may seem like the compliance costs outweigh any immediate benefit,” she says. “But pensions are long term savings plans and clearly have a role to play in shaping the society of the future,” she said.
“The silver lining is to recognise the real value of this process, how this should accumulate over time and help promote more sustainable investment strategies.
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