Charlene Cranny is communications and campaigns director of the UK Sustainable Investment and Finance Association.
Sustainable investing is persistently thought of as a ‘nice to do’ or even an ‘impossible to do’ by many UK pension fund trustees. Perhaps because it means considering issues that are more often thought of as ‘ethical’ than ‘financial’, such as human rights or plastic pollution.
However, environmental, social and governance (ESG) issues are – more often than not – financially material. That means trustees have a legal obligation to consider them as part of their fiduciary duty.
Sustainable finance is the law for pension schemes
This relationship between ESG and fiduciary duty hasn’t always been clear. So in September 2018, on Law Commission advice, the Department for Work and Pensions (DWP) lay down new regulation to clarify things. It requires pension schemes to have a policy on financially material ESG factors such as climate change and a policy on stewardship, including how they engage with investee firms and exercise voting rights. This revision means UK statute now aligns with existing common law, providing absolute clarity to trustees on their requirement to consider sustainability.
The Financial Conduct Authority is currently consulting on how they will update their rules to reflect this while The Pension Regulator has clarified the need to consider ESG since 2017.
So, which sustainability factors are financially material? The ESG issues having a financial impact – negative or positive – on a company’s performance will differ from sector to sector. Examples include supply chain management, environmental policy, worker health and safety, and animal welfare. It hasn’t always been easy to identify which issues are financially relevant but new tools are popping up all the time to help. For example, the Sustainability Accounting Standards Board (SASB) has produced The SASB Materiality Map to help investors analyse portfolio exposure to specific risks and opportunities represented by ESG issues.
Climate risk is the big one. Being the most critical and all-encompassing issue of our time the finance industry has put a lot of effort into identifying the risks and opportunities. And the risks are plenty. Extreme and creeping environmental events caused by global warming are hindering companies’ ability to perform.
Failed crops, lifeless land, water supplies drying up, flooding, political instability, climate migration and emission caps – these and more are impacting, or will impact, most company valuations one way or another.
The litigation risk is real
Thankfully, many pension trustees are considering climate risk but a concerning number are not. Last year, ClientEarth (the lawyers who won the recent case exposing the UK Government’s inaction over illegal and harmful levels of air pollution) put 14 UK pension funds on notice over climate risk and that is just the start.
Almost 1,000 climate change-related cases have been filed to date around the world, covering 25 countries. Overall, corporations are the most common claimants with governments being the most common defendants. However, in the first case of its kind, Mark McVeigh, 23, took Retail Employees Superannuation Trust (REST) to the Federal Court of Australia over its lack of disclosure around how it is considering financially-material climate risk. UK-based savers are watching carefully.
The trustee checklist
To help get up to speed and avoid such a case trustees can use the UKSIF and ShareAction checklist to assess what progress they have made on managing climate risk and what action can still be taken. Otherwise, trustees can seek advice at Ownership Day in London on 1 May or speak to their fund manager to ensure they are able and willing to show how they are managing the risk properly on the scheme’s behalf.
While it would be lovely if trustees intentionally combined the stewardship of people’s savings with stewardship of the planet (it’s entirely doable), for now, there is still work to do clarifying the legal obligation to recognise the impact that environmental and social issues have on savers’ returns.
