It is an uncomfortable truth that the investment approach taken by a company’s pension scheme may be at odds with its overall environmental, social and governance (ESG) goals. Each year, the average UK pension member unknowingly finances 23 tonnes of carbon dioxide emissions, according to research commissioned by the fintech workplace savings business Cushon.
Concerns can extend well beyond carbon footprints. Investments may be in organisations that show scant regard to animal welfare or human rights, or organisations with connections to armaments or alcohol manufacturers. So, employers are increasingly offering access to pension funds that complement their ESG strategies.
Read more: Pensions education at work: swotting-up on savings
Lorna Blyth, managing director, investment proposition, at the life insurance business Aegon, says: “Since 2018/19 there has been a recognition from asset owners and pension providers that they need to take more account of ESG, and specifically climate risk. So, all pensions will offer an ESG option, and most default funds have net-zero targets. Aegon is committed to making its default funds net-zero by 2050 and to a 50% reduction by 2030.”
The ESG investment approach arrives at an aggregate score after considering factors such as how a company safeguards the environment, how it manages relationships with employees, suppliers, customers and communities, and how it fares with governance issues like executive pay and shareholder rights.
But different specialist ESG pension funds can focus on different criteria. Some screen out unethical companies altogether while others just reduce weightings in them. Some seek out companies making a positive difference. Others may hold shares in businesses with low ESG scores but engage with them to improve.
The latter approach is highly evident within some default funds. The finance business NOW: Pensions, for example, has a ‘transition-focused strategy’ for its default fund. If businesses with a negative impact on the environment are willing to and transition to a more sustainable future, it is willing to support and invest in them.
Types of scheme
The type of pension scheme a company chooses can determine the extent to which HR needs to get involved with ESG issues. Group personal pensions (GPPs) and other contract-based schemes involve different considerations to trust-based arrangements like own-trust occupational schemes and master trusts.
Charles Cotton, reward adviser at the CIPD, says: “With contract-based schemes, HR has more responsibility because when a GPP scheme is set up for auto-enrolment purposes, most employees will let themselves be put into the default fund.
"HR needs to ensure that the default fund passes muster, and that there are options for those wanting to take an even more ethical approach. Even if a scheme is trust-based, HR still needs to liaise with the trustees, to check that the type of funds being selected align with corporate principles.”
Whether a company has a defined benefit (DB) scheme or a defined contribution (DC) scheme, is also highly relevant. Justin Wray, head of DB, LGPS and investment at the Pensions and Lifetime Savings Association (PLSA), says: “Most DB schemes are closed, so the main priority will be matching assets to liabilities, and there will be a major focus on fixed interest investments rather than on ESG-specific equities.
“But investing in growth assets will be more appropriate with DC schemes and open DB schemes. They may be more interested in equities. If so, sustainability may be more of an issue.”
Context is key
But the pension scheme is only one part of an ESG jigsaw that has seen chief sustainability officers promoted to board level during the last few years. Companies have become increasingly aware of the need to comply with reporting requirements.
Victoria Gallimore, group people and culture director for the insurance firm Clear Group, says: “We are passionate about ESG as a company, and the pension is important. But it’s not as important as the environmental impact of the business, the diversity belonging of our staff, our commitment to our communities and ensuring we have the right governance structure in place.
“Pensions are probably a relatively minor consideration in comparison. But it’s still an important one.
“Most questions asked by candidates at recruitment interviews refer to the social part of ESG, particularly our work in the communities, as opposed to pensions. The fact that pensions is lower down their pecking order possibly reflects the fact that pensions education and awareness in this country has some way to go.”
Read more: For real ESG change, we must empower employees
Figures bandied about to demonstrate employee interest in ESG investing are, in truth, far from eye-catching. For example, a survey of pension customers conducted by Aegon in July 2023 found that an unremarkable 52% would be motivated to save more if they knew they were making a difference. And saying something in a survey is easier than actually doing it.
According to Jonathan Watts-Lay, director of the financial wellbeing firm Wealth at Work: “People may talk anecdotally about investing in ESG but we’ve got no hard evidence that they do so.” Financial services company Mercer reported that 95% of employees opt for default funds, although the proportion can be as low as 60% among financially literate workforces.
Even at PensionBee, whose customers make active plan choices when switching to it, only around 10% opt for a specialist ESG fund. Indeed, for every pro-ESG statistic volunteered there is another one suggesting that employees have little interest in pension investment as a whole.
In February, PLSA research showed that 67% of employees have no knowledge of where their pension is invested. Staggeringly, in March, Wealth at Work research revealed that 29% are unaware that their pension is actually invested. Even employees keen to drill down into the ESG credentials of funds often struggle with the complexity involved and have no real way of comparing like with like.
Judy Kuszewski, CEO of sustainability consultancy Sancroft, says: “Most ordinary people probably aren’t going to worry too much about the detail, and they want decision-making to be easy. One of the problems is that they find ESG investment hard to understand, and that there is no single labelling system for funds. The new anti-greenwashing laws could give funds more credibility.”
Governments, companies and consumers have all been rowing back a little on ESG stances during the last two years, as the outbreak of war in Ukraine has created greater focus on energy security and the cost of living. Gareth Trainor, head of investment solutions at the investment business Standard Life, says: “While the recent clamour for green solutions is still present, the cost of living crisis has balanced this somewhat, with employees making it clear that the primary purpose of a pension is to provide a financial return.
“Research indicates that all other purposes would seem to be secondary, at least for the majority. But if both a return and sustainability targets can be achieved together, this is even better for all.”
This is part one of an article that was published in the July/August 2024 edition of HR magazine. Part two will be published online tomorrow.
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