Removing the roadblock to ESG investing

The Department of Labor recently published the final version of its rule on environmental, social, governance (ESG) investments in 401(k) plans. An earlier version of the rule prompted a flurry of comments sent to the DOL during the atypically short comment period.

One argument many put forth against the rule was that ESG issues must be part of the investment decision, not a “nice-to-have” extra, to better understand any risks that might affect a company’s long-term financial performance.

Aron Szapiro, Morningstar’s director of policy research, has written extensively on ESG investing, and the company has staked a position that is staunchly in favor of it. We asked Szapiro about his thoughts on the DOL rule.

BenefitsPRO: Comments opposing the DOL’s proposed ESG rule came not only from those who are engaged in ESG investing but also from many large conventional asset managers. Were you surprised by this?

Aron Szapiro: Not at all. As we noted in our letter, ESG analysis is increasingly mainstream. We were not surprised to see conventional asset managers arguing that the DOL was moving in the wrong direction with this rule.

What is important to know about the differences between the proposed rule and the final version?

The final rule drops references to the terms ESG, although the preamble still makes it clear that the DOL’s skepticism about ESG investing is the rationale for promulgating this regulation. Still, the rule retains the restrictions on qualified default investment alternatives, which we think will still make it difficult for ESG or sustainably oriented funds to be default investments.

Since a majority of participants invest in the default option, we think this part continues to be an issue. The rest of the rule seems to mostly codify the 2018 field assistance bulletin, which we think is wrong-headed in its skepticism of ESG investing, but does not appear to be as massive a roadblock for including ESG funds as designated investment alternatives—at least compared to the proposed rule.

You wrote earlier in the fall, “To be clear, no matter the outcome of this election, we do not believe that investor interest in sustainable funds will go away.” With the Biden administration, will the rule be changed? 

We think the most likely path, given the QDIA portion of the rule is delayed and the rule text does not speak to ESG directly, is that the new DOL appointees will issue sub-regulatory guidance to make it clear that considering ESG is appropriate for ERISA plans. We hope they will amend the rule to remove the QDIA restrictions in the coming years.

Will employer-sponsored plans embrace ESG investing or will they remain cautious?

As ESG investing continues to go mainstream, plan sponsors will probably slowly become less cautious and more interested. Were Congress to amend ERISA to make it clear that the plan sponsors can invest in the sole interest of their participants while considering ESG, that would speed things along with sponsor adoption.

What does the U.S. retirement industry need to have to successfully incorporate ESG investing, especially in employer-sponsored retirement plans but also overall?

I don’t think the industry needs anything other than for policymakers to get out of the way. If the ESG roadblocks in regulation were lifted, that would be plenty.