As trillions of dollars flow into sustainable investments and high-carbon assets are written down by oil companies, environmental, social and governance (ESG) themes are influencing investment decisions on an ever-increasing scale and affecting companies’ access to capital.
Against this backdrop, pension fund trustees now face increased regulatory scrutiny about how they take financially material issues into account, including ESG considerations.
Following on from the changes to occupational pension scheme reporting requirements which came into force in October 2019, trustees must:
• Review, enhance and publish their statement of investment principles (SIP) by 1 October 2020
• Include an implementation statement based on the principles outlined in their SIP in their scheme’s annual report after 1 October 2020, if they oversee a defined contribution (DC) or hybrid scheme
• Develop an implementation report on their voting and stewardship policies by 1 October 2021 if they are responsible for a defined benefit (DB) scheme
Below, we tackle three of the key questions that are likely to emerge during the process:
1. How are schemes managing financially material risks and opportunities, including from ESG issues?
2. To what extent are members’ views (on non-financial factors) taken into account?
3. How can trustees better understand and explain the voting and stewardship activities conducted on the scheme’s behalf?
Living in a (financially) material world: Managing the risks and opportunities
The regulations coming into force are not necessarily intended to alter schemes’ investment decisions. Trustees who are satisfied that ESG issues have been sufficiently covered under existing arrangements for managing material risks and opportunities may wish to state this explicitly in their SIP and implementa- tion statements.
Some trustees wish to target investment outcomes further than existing process- es allow – for example, by adopting an investment mandate with an explicit goal of a reduction in associated carbon emissions, or other positive ESG characteristics. This decision may be motivated by considerations of financial risk and return, but it may also reflect members’ views on sustain- ability issues.
Regardless of the type of investment mandate they have chosen, trustees should review the stewardship activities – such as voting and engagement with companies and policymakers – undertaken by their designated asset managers.(1)
Don’t just show me the money: Scheme member perspectives
The updated regulation also addresses scheme members’ non-financial preferences. Here, there are several things to consider: what are members’ preferences, where do they want them incorporated, and how? Is the asset manager aware of and incorporating members’ views into its investment decisions?
Our research found that scheme members are increasingly engaged with ESG issues. It’s encouraging that our findings included people of all ages affirming that they would engage more with their pensions if they felt that they were making a positive impact.(2)
One dimension of impact is the positive influence that investors can have on investee companies, and thereby on society as a whole, through their stewardship activities.
Hop, SIP and a jump: Supporting the enhanced disclosure of schemes’ stewardship activity
When addressing the increased disclosures, a good place to start is to think about the spirit of your scheme’s approach to stewardship, before you formulate the detail of what your voting policy will be.
Questions to keep top-of-mind are: how your approach links to your asset manager’s policy, how your manager defines the ‘most significant’ votes, what the approach to conflicts of interest is, how your asset manag- er collaborates with other investors and their members on ESG issues, and how your voice can be heard even in a pooled fund.
Here to help:
In an increasingly stringent regulatory environment, LGIM is playing our part in trying to steer the market towards better practice. In 2020, ShareAction ranked LGIM number three of the world’s 75 largest asset managers across responsible investment themes, and as one of only five managers to be placed in the top category (A).(3)
The full guide, including links to LGIM-published documents to explain our disclosures, is available here https://www. lgim.com/uk/en/insights/our-thinking/esg- and-long-term-themes/esg-checklist/. Please get in touch with your usual L&G contact for more tips on how we can help you to meet regulatory requirements.
1 For more information on updating the SIP, please see: http://www.lgim.com/web_resources/lgim-thought-leadership/Files/Client_Solutions_five_ step_esg_checklist_trustees_Mar_19_UMBRELLA. pdf 2 A survey of c.1000 workplace-pension savers was conducted by LGIM in 2019. More information is available here: https://update.lgim.com/dc-esg 3 Source: “Point of No Returns: A ranking of 75 of the world’s asset managers approaches to responsible investment”, ShareAction, March 2020 (https://shareaction.org/research-resources/point-of-no-returns/).
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