If you have any questions or comments for Guidance Point, please fill out the form below and a representative will respond to you within two business days. Guidance Point values your privacy. For more information, view our Privacy Policy.


The Fiduciary Focus Blog

ESG Investing: Does it belong in your Retirement Plan Menu?

Benjamin Smith, CFA 03 April, 2018


A   question, or maybe even a demand, that we've been receiving more and more from our Retirement Plan Committees and their participants has been "Are there any Socially Responsible funds in our Retirement Plan Menu? If not, I want them in there!"   While it may seem like a simple question, the answer is not so simple.   More questions arise:   If one Environment Social and Governance (ESG) fund is in a plan, can it  provide a solution for a participant's entire wealth to be appropriately allocated to stocks and bonds? Is the ESG Investment capable of providing investment returns that meet the implementation criteria of the retirement plan committee?

First, if you don’t know what ESG investments are, ESG stands for Environmental, Social and Governance , and ESG funds follow a set of standards for a company’s operations and an ESG fund only invest  in a company’s stock if it meets those standards.  

A  good definition comes from :

Like value or growth styles, responsible investing means different things to different investors. Socially responsible investing (or SRI) has been around at least since the 1970s. This approach “screened out” companies that clashed with the values of the investor. Tobacco, liquor and gambling stocks often fell into this category.

Today the term “ESG investing” has become a common way to describe investments with certain socially conscious attributes. Rather than to screen out companies, ESG investors are looking for companies with favorable environmental, social and governance factors. A qualifying company may efficiently use water in their manufacturing process, invest in environmentally friendly technology, or actively seek locations for new businesses in underserved communities. An often overlooked aspect of ESG attributes is sound corporate governance – practices like ethical behavior and sound financial reporting.

 It is important  to note that there isn't one universal standard for investments that is considered ESG.   Each investment may have its own criteria to define and select what would be an acceptable ESG strategy.  Some may exclude entire industries while others may look for the best practices within each industry.   

plan-menu-designPhoto by   from   Pexels

Should My Plan Consider Adopting ESG Investments?

Our consultants first try to answer this question by aligning   with the goals of the Retirement Plan Committee.  Some goals may be  to increase the retirement readiness of the participants, to increase the investment diversification of participants,  or to increase the level of active participation of participants in the retirement plan all together.  There are some work places where participants may  not be participating (or participating fully) due to a misalignment of their personal  values to the investment options in the plan.  This may be where ESG investment options play a role in the retirement plan menu. 

Additionally, the Department of Labor (DOL)  issued guidance in 2015 for plan sponsors looking to implement ESG options in their  401(k) and 403(b) retirement plans.  Of note from this guidance was that  Fiduciaries may not accept lower expected returns or take on greater risks in order to secure collateral benefits. Some commenters have referred to this standard as the “all things being equal” test.

How   Do We Implement ESG into our Retirement Plan Menu Design?

Our consultants first identify that ESG investing is an investment philosophy not unlike the active management versus passive management debate.  Many plan sponsors like to include active and passive funds as participants may want to invest based on their personal feelings of either.  With that in mind, active and passive managers are chosen in various equity  and fixed income  styles.   This is where ESG investing in today's retirement plans has fallen a bit flat.  Retirement Plan Menus tend to stop at adding one ESG fund to the plan menu, generally a US Large Cap  Equity style.  However, most retirement plan participants over their lives will be shifting their assets from Equities to Fixed Income as they get closer to their retirement date.   We believe that Fixed Income should also be considered for the ESG plan menu design to properly allow participants to diversify within an ESG universe to meet their retirement plan goals. Additionally, an  ESG Target Date Fund solution would be provided that  aligns with the Committees stated goals if enough demand warranted the inclusion. 

How Should We Quantify an ESG Manager?

The first item to consider  is whether an ESG Manager would pass the retirement plan committee's investment criteria if the fund wasn't ESG eligible.  Favorite criteria that are often considered include peer performance ranking, expense ratio, manager process (including repeatability of the process), and level of assets in the strategy. Once that is established, the Committee should define ESG for themselves and what type of investing behaviors they would like to include and exclude.  If an investment is able to pass both of these metrics, then   it should be eligible for the plan menu inclusion. 

moneyImage by    Gerd Altmann   from   Pixabay 

What's the Current State of ESG Adoption and What  is Some of the Debate Surrounding It?

Various institutional investors, including CalPERS Pension Plans,  are increasingly utilizing  the investment dollars of which they are stewards of to impact various ESG initiatives. For example, from

Moving in response to the latest in a long series of mass shooting incidents impacting communities across the United States, Connecticut State Treasurer Denise Nappier this week announced that her state will significantly step up its shareholder activism with respect to its ownership of stock in firearm manufacturers. She specifically cites the potential of future divestment, should the shareholder activism fall short. 

In a letter written to State Senator Gayle Slossberg, later made public, Nappier states in no uncertain terms that, regarding the process of potential divestment, as principal fiduciary of the Connecticut Retirement Plans and Trust Funds (CRPTF), she carries “sufficient authority to divest following a period of engagement with our portfolio companies, consistent with the State’s divestment laws.”

Defined Contribution plans, however, have been very slow on the uptake.  Vanguard's "How America Saves 2017 Survey" displayed that only 8% of retirement plans on the Vanguard  platform currently offered  a Socially Responsible  investment choice in the plan menu. 

We hope this blog post provides you   a solid starting place for thinking about ESG investments with your retirement plan committee.  If you have more questions about your how to structure your retirement plan investments, and you're struggling with designing your plan investment menu and IPS, please download our free eBook   Fiduciary Best Practices for  Plan Menu Design.  

 Download Here!

Other blog posts you may enjoy:

My Funds are on the Retirement Plan Watch List. Now What?

What Does It Mean to Hire a 3(38) Advisor / Investment Fiduciary? 


Topics: ERISA Compliance, Retirement Plan Menu Design