How changing ESG policies could impact financial professionals in the coming months

The Biden administration has pushed for new regulations that focus on the intersection of investing and the climate, diversity, and equity.

Since the inauguration, the Biden administration has enacted hundreds of regulations, executive orders and memoranda related to environmental, social and governance (ESG) issues such as climate change, the environment and racial equity. Along with rejoining the Paris Climate agreement, convening a Leaders Climate Summit and many other actions, the administration has focused on financial services policies to achieve ESG goals.

Proposed guidelines for the financial services industry are designed to make companies more accountable for their ESG behavior and empower investors to use climate change and other ESG criteria as part of their investment decisions.

For example, in mid-October the White House released the “Roadmap to Build a Climate-Resilient Economy,” a strategy to protect workers and families from financial loss as the US fights climate change.  With Democrats controlling both chambers of Congress, there has been a great deal of support from Congressional leaders for the administration’s approach.  In October, the U.S. House Financial Services Oversight Committee released “Report on Climate-Related Financial Risk,” identifying climate change as an emerging risk to financial stability.

These reports highlighted ESG-related efforts by the Department of Labor (DOL) and Securities and Exchange Commission (SEC). These agencies are working on separate proposals that could add ESG reporting requirements for companies that issue securities, change the guidelines that govern how fiduciaries and funds look at climate change in their investment decisions, and alter how asset managers market ESG products.

While these rules have not yet been enacted, here is a look at some of the potential changes being discussed.

ERISA fiduciaries

The Department of Labor has issued a proposal that would change two Trump-era rules that limit Employee Retirement Income Security Act (ERISA) fiduciaries’ ability to incorporate ESG considerations. The current rules, which have been put on hold by this administration, discourage consideration of ESG issues when choosing default investment options for retirement plans and when voting on investment courses of action. However, the newly proposed Biden rule would not just permit fiduciaries to consider ESG factors, but actively encourage consideration.

The DOL’s rule proposal specifies:

• How fiduciaries might consider the financial impact of climate change as part of a risk-reward assessment when making investment decisions.
• That fiduciaries may select investment options that consider non-financial factors including ESG factors as a Qualified Default Investment Alterative (QDIA).
• Changes to the “tie-breaker” test that would allow fiduciaries to use ESG criteria as a deciding factor if two investment options equally serve the financial interest of the plan over an appropriate time horizon. Current rules have a higher standard before investment options can be considered “tied.”
• New rules for shareholder rights and proxy voting that would remove some recordkeeping requirements and safe harbor rules that may currently prevent fiduciaries from supporting ESG proposals.

 Federal Retirement Thrift Investment Board

The Thrift Savings Plan is the largest defined contribution plan in the world, with approximately 6.2 million participants and more than $735.2 billion in assets as of the end of 2020. In May 2021, Biden instructed the DOL, in consultation with the Director of the National Economic Council and the National Climate Advisor, to assess how the Federal Retirement Thrift Investment Board (FRTIB) accounts for ESG factors, including climate-related financial risk.

The DOL is looking at the legal parameters surrounding the FRTIB’s investment decision-making process and conducting its own legal analysis of the existing authority to address climate-related financial risks. The agency is expected to request public input on how to protect workers’ savings from climate change risk.

Securities issuers

Last year, the SEC named a Senior Policy Advisor for Climate and ESG and created a Climate and ESG Task Force within its enforcement division. Part of the task force’s role involves ensuring that issuers are complying with existing disclosure requirements and not omitting or misstating material information about climate risks and opportunities that are relevant to their business.

The Commission is also proposing new disclosure requirements that are expected to be similar to those put forth by the Task Force on Climate-related Financial Disclosure (TCFD), a framework which assesses and reports on climate-related governance, strategy, and risk management. The proposed disclosure rules, which would likely be phased in based on company size, may also include greenhouse gas emissions data—including upstream emissions from the supply chain, known as “Scope 3” emissions.

Mandatory disclosures of human capital management and cybersecurity risk governance are also expected to be covered in this rule proposal.

Asset managers

In addition to new policies for issuers, the SEC is taking steps to address ESG fund disclosure and naming, with a proposal expected in the first half of this year. SEC Chairman Gensler has indicated that updates to fund disclosures and to naming conventions would bring greater transparency to the asset management industry.   Additionally, the Climate and ESG Task Force has been tasked with monitoring and enforcement for investment advisors and funds that involve ESG strategies, and earlier last year, the SEC put out a risk alert around misleading statements related to ESG strategies.

Moving forward

There is little doubt that climate and ESG will continue to be a top priority for financial services regulators. As recent administration reports outline, enhanced issuer disclosures and oversight of asset managers’ decision making are sure to feature prominently in regulators’ climate risk agendas. If you’d like to read about Biden’s focus on financial regulation in more detail, you can check out the full report—which I wrote with my colleague Jennifer Flitton, Invesco’s Senior Vice President of Federal Government Affairs—here.

Important information

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The opinions expressed are those of the speakers and are based on current market conditions as of March 2nd, 2022, and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals.

The use of environmental, social and governance factors to exclude certain investments for non-financial reasons may limit market opportunities available to funds not using these criteria. Further, information used to evaluate environmental, social and governance factors may not be readily available, complete or accurate, which could negatively impact the ability to apply environmental, social and governance standards.