Senior UK pension industry stakeholders are urging for greater clarity and official support by The Pensions Regulator (TPR) following a paper published on pension scheme trustees’ evolving fiduciary duties around climate change.

The Financial Markets Law Committee (FMLC) was tasked by the UK government to clarify uncertainties in financial market laws, including the fiduciary duty of trustees in sustainability investment decisions.

It created a working group with industry representatives to provide practical guidance for trustees, addressing concerns that the law may not allow for assertive sustainability investment strategies.

Earlier this month it produced a paper – Pension fund trustees and fiduciary duties: Decision-making in the context of sustainability and the subject of climate change – in which some of the group’s interpretations of the law was that pension trustees can, and should, take sustainability into consideration without being in breach of their fiduciary duties.

Overall, the group found the current law allows for more decisive sustainable investments.

Maria Nazarova-Doyle, global head of sustainable investment at IFM Investors and a member of the FMLC’s working group, said the report’s guidance surpassed her expectations, adding it went “beyond her imagination”.

However, for Nazarova-Doyle, it is crucial that TPR adds the report’s key messages to its official guidelines, something which she believes will have an enormous impact on the industry.

Challenging environment

The FMLC report starts by recognising the current challenges faced by pension funds in the context of sustainability. For pension funds, setting investment strategy, principles and policies and making investment decisions have all become more challenging in the context of sustainability and the subject of climate change, it stated.

“This has given rise to renewed uncertainty over what the ‘fiduciary duties’ or trust duties owed by trustees of pension funds require in this context,” the report noted.

Maria Nazarova-Doyle

Maria Nazarova-Doyle, global head of sustainable investment at IFM Investors and a member of the FMLC’s working group, says it is crucial that TPR adds the report’s key messages to its official guidelines

It also highlighted that trustees should not leave the relevance of climate change to what is required by current legislation and regulation, adding that approach would not address all the risks.

While the overall direction of change will likely be away from activity that could have adverse climate change consequences, material developments “may sometimes be sudden” or without alignment to existing strategies, the FMLC report added.

Therefore, financial factors need to be considered at several levels: at the level of a specific asset or investment, at a portfolio level, and at the level of whole economies material to the pension scheme, it continued.

Trustees have often struggled to incorporate ESG factors into investment decisions. Something due in part to the concept of financial versus non-financial factors introduced by the Law Commission in a 2017 report, whose aim was similar to that of the FMLC.

The 2017 report, however, created more confusion than it sought to solve, according to Nazarova-Doyle.

The FMLC appears to have tackled this issue by saying that it is “the motive underlying its consideration” which distinguishes a financial factor from a non-financial factor, rather than the nature of the factor itself.

Greater clarity

Maggie Rodger, co-chair of The Association of Member Nominated Trustees (AMNT) said she hoped the FMLC report would encourage more advisors to engage with smaller funds and schemes, as there has been some reluctance historically.

“I hope this encourages them [stakeholders] to persist in challenging themselves.”

Rodger added: “One area not covered in this report is what is fiduciary duty when coming to buy out. Is there a duty to consider longer term issues, such as whether the investment principles of the insurer match the trustees’ position, or is the ‘guarantee’ from an insurance transaction the only fiduciary issue?”

Uncertainty over fiduciary duties

Produced by a working group of legal and pension professionals, led by High Court judge Robin Knowles, as part of the UK government’s Green Finance Strategy, the FMLC report encourages trustees to think long term in their investment decisions. And even goes as far to say schemes should forego the short-term return, if it creates identifiable risks to the long-term return.

Trustees are also encouraged to think about narrative strategy and analysis when dealing with climate modelling data. Something UK Sustainable Investment and Finance Association (UKSIF) chief executive officer James Alexander, said was particularly encouraging.

“What is particularly good to see is the ambitious attitude taken to pervasive issues with climate modelling. Just because quantitative climate modelling can be difficult, and imperfect does not mean that climate change can be ignored. That is very welcome.”

Alexander went on to say, however, that it remains to be seen whether the report will have a material impact, adding: “As such, we urge ministers and regulators, particularly TPR, to support the findings of the FMLC, and build these into regulatory guidance for trustees. Regulators should also monitor the impact of these clarifications amongst fiduciaries and their advisers to determine if more action is necessary to effect change.”

When contacted by IPE asking whether it planned to add the findings to its guidelines, a TPR spokesperson said: “Climate change and other ESG risks are among a range of factors that may be financially material to schemes. Trustees should ensure their advisers have the appropriate skills and expertise and can fully explain how those factors come together so they can make informed investment decisions.”

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