OMB moves DOL ESG rule, as backlash builds

By Steven A. Morelli

The environmental, social and governance movement’s noble intentions are running into stiff resistance with growing backlash while a Department of Labor rule moves ahead that would allow limited ESG goals in investing.

The DOL proposed ESG rules during the Trump administration that would require retirement fund advisors to put pecuniary interests ahead of ESG goals in investing, replete with a note from then-DOL Secretary Eugene Scalia deriding social goals in ERISA-protected plans. The Biden administration took back the rule to realign it with ESG objectives, but ultimately kept the primary focus on monetary considerations.

BlackRock, the world’s largest asset-holder and leading ESG proponent, cautioned advisors on the newest rule.

“The proposal confirms that, in selecting plan investments, a fiduciary may not subordinate the financial interests of the participants and beneficiaries and may not sacrifice investment return or take on additional investment risk to promote benefits or goals unrelated to financial interests of the participants and beneficiaries,” according to a BlackRock note to advisors.

The DOL proposed its latest ESG rule – the Prudence and Loyalty in Selecting Plan Investments and Exercising Shareholder Rights – in October 2021. After comments and arguments over the measure, The DOL sent the final version to the Office of Management and Budget for review this October. The National Association of Plan Advisors is reporting that the OMB has finished its review of the rule.

Although the newest version of the rule kept the investment performance focus, it did include some improvements, according to BlackRock. The newest rule:

Removed the definition of “pecuniary”: The newest version removed the 2020 ESG rule’s reference to pecuniary factors in an ERISA fiduciary’s investment responsibilities, saying that “a prudent fiduciary may consider any factor… that … is material to the risk-return analysis.” It included several specific examples of ESG factors that may be considered, such as climate-change, board composition and workplace diversity and inclusion. The fiduciary can consider ESG economic impact on an investment.

Dropped restrictions on Qualified Default Investment Alternatives (QDIAs): The Trump-era rule would prohibit plans from keeping any investment as a QDIA if its objectives, goals or its principal investment strategies involve non-pecuniary factors. The newest version puts QDIA on the same level as other investments. The DOL stated that “If a fund expressly considers climate change or other ESG factors, is financially prudent, and meets the protective standards set out in [DOL’s QDIA regulation], there appears to be no reason to foreclose plan fiduciaries from considering the fund as a QDIA.”

Clarified the tie-breaker test and removed corresponding paperwork: If a fiduciary prudently concludes that competing investments equally serve the financial interests of the plan, they may choose one of the options for its collateral benefits, such as ESG, but must include the collateral benefit in disclosure material. But the rule does not require any other documentation as the original version did.

Removed language that discouraged proxy voting: The Trump-era version stated that “the fiduciary duty to manage shareholder rights appurtenant to shares of stock does not require the voting of every proxy or the exercise of every shareholder right.” The DOL said that provision could be seen as suggesting plan fiduciaries should refrain from exercising their rights as shareholders. It also dropped the provision that the fiduciary had to maintain records on proxy voting and other exercises of shareholder rights.

SEC delays rule, but not enforcement

The Securities and Exchange Commission is casting a skeptical eye on companies’ ESG claims to guard against “greenwashing.” The SEC has proposed rules requiring publicly traded companies to disclose their ESG plans.

The agency missed its October deadline for finalizing the rule because it was inundated with comments and had to reopen the comment period because of a system glitch. The SEC is also reviewing the implications of the West Virginia v. Environmental Protection Agency case, which limited the reach of government agencies.

But even as the agency looks at these issues, an SEC task force is forging ahead with requirements for companies and investment advisors, according to an opinion from Morgan, Lewis & Bockius published by Reuters.

“When the Securities and Exchange Commission created the Climate and ESG Task Force within the Division of Enforcement with the express purpose of identifying ESG-related misconduct, many public companies and investment advisers started preparing for expected enforcement actions,” according to the article.

The task force is working with SEC divisions such as corporation finance, investment management and examinations as it seeks gaps and misstatements in issuers’ disclosures of climate risks and ESG strategies.

“Companies and advisors should be careful to not make ESG-related statements that they cannot prove, whether in SEC-required filings or voluntary statements made, for example, in corporate sustainability reports, on websites, or in marketing materials,” according to the article. “As with the law governing any type of disclosure, ESG statements should be accurate, consistent and verifiable.”

Fund advisors should be careful about their claims that they consider ESG principles, the firm warned, because the SEC will expect the advisor to demonstrate such consideration for each investment made by the fund.

“Also be aware that using terms like ‘green’ or ‘sustainable’ in a fund's name or in related marketing materials may trigger greenwashing concerns and could raise questions about the basis for such statements,” according to the article. “To the extent such terms are used, advisers should consider making clear their own definitions of the terms and why they believe such terms apply to the fund.”

States take aim

Meanwhile, critics of ESG have remained vocal. Not only are some experts and pundits speaking out, but states are getting into the fray by restricting investments of public pensions under their purview.

Former Treasury Secretary Eugene Scalia may have cast some shade on ESG, but others are not mincing words. In particular, Andy Puzder, the former CEO of Hardee’s, is backing up a dump truck to pile onto ESG, calling it “socialism in sheep’s clothing.”

A Bloomberg article named Puzder, who briefly served as President Donald Trump’s first labor secretary, as a central figure in the torrent of anti-ESG sentiment. Puzder is going beyond criticizing BlackRock and the ESG concept in general. He has the ear of Republican politicians, particularly governors.

“What started as a scattershot, state-by-state effort is now a coordinated, nationwide campaign — one that promises to gather force now that Republicans maintained control of most state legislatures in the midterms and [Florida Gov. Ron] DeSantis emerges as a possible presidential candidate for 2024,” according to the article.

Not only are red states open to the model regulations that Puzder is offering, but even more establishment Republicans such as former Vice President Mike Pence are citing Puzder’s opinions when speaking on ESG.

“For the past 18 months or so, Puzder has been busy trying to turn ESG into a Republican talking point,” according to Bloomberg. “He and his allies have portrayed the strategy as a threat to corporate America, and he’s been working behind the scenes — glad-handing officials, drafting bills and planting ideas.”

States have been pushing back against ESG. Last year, Texas banned municipalities from doing business with financial firms that eschew the fossil fuel and gun industries. This year, Florida barred the state’s pension fund from considering ESG principles in making investment decisions. Eight other states followed suit, with several others poised to join them, according to the article.
States are also protesting an ESG report card that the S&P Global Ratings developed for each state. Earlier this year, Utah state and federal officials demanded that the S&P rescind the report card.

Missouri is also leading an 18-state investigation into Morningstar over its ESG ratings, according to Fast Company. The attorneys general of 19 states also sent a letter to BlackRock criticizing the company’s use of ESG principles in managing state pension money.

The letter accused BlackRock of taking the “hard-earned money of our states’ citizens to circumvent the best possible return on investment” and forcing companies to adopt international agreements that would phase out fossil fuels, increase energy prices, drive inflation and weaken U.S. security.

Steven A. Morelli is a contributing editor for InsuranceNewsNet. He has more than 25 years of experience as a reporter and editor for newspapers and magazines. He was also vice president of communications for an insurance agents’ association. Steve can be reached at [email protected].