ESG Investing Battle of Trump’s Agencies

2020 has already seen massive economic damage related to climate change. The fires on the West Coast were deemed “climate fires” by Governor Inslee of Washington. The cost of only the direct cost of the 2020 California fires is estimated at $20 billion. More than 2.5 million acres of land have burned in California by early September, nearly 20 times what had burned at this time last year. Climate risk to our economy is real and happening. Sustainable and environmental, social, and governance (ESG) investing is one way to account for climate risk when making investment decisions. Two different hands of the Trump Administration are battling out if ESG investing should be viewed as good or bad.

Climate Risk Report

It seems appropriate that the US Commodity Futures Trading Commission (CFTC) recently released a report entitled “Managing Climate Risk in the US Financial System.” During an era where climate information is suppressed, this report was surprisingly released to the public. The report was also released by a Trump appointed Commission composed of three Republicans and two Democrats.

The report makes clear that the US financial system and economy are gravely threatened by climate risk. That risk includes physical risks, such as fires and floods. It also includes transition risk. This risk includes oil infrastructure becoming stranded assets, or assets that prematurely have little to no value.

ESG Findings and Recommendations

The report recommends sustainable and environmental, social, and governance (ESG) investing. It states that there is a common misperception that ESG investments have lower returns hinders sustainable investing. It clarifies that ESG factors do not hurt investment performance and sometimes enhance risk-related returns.

The report also highlights that because climate-related factors may affect financial performance, they should be considered by fiduciaries to the same extent as “traditional” financial factors—such as valuation, profitability ratios, and management strength. Regulatory efforts must not discourage the consideration of these factors, and instead should encourage their consideration.

Climate Risk and Retirement Plans: CFTC ESG Encouragement

The CFTC report recommends that climate-related factors be considered when making investment decisions in retirement and pension plans. The report states: “The United States and financial regulators should review relevant laws, regulations and codes and provide any necessary clarity to confirm the appropriateness of making investment decisions using climate-related factors in retirement and pension plans covered by the Employee Retirement Income Security Act (ERISA), as well as non-ERISA managed situations where there is fiduciary duty.

Climate Risk and Retirement Plans: Department of Labor ESG DiscourageMent

In June 2020, the Department of Labor (DOL) released a proposed rule that discourages ERISA-governed retirement plans from offering funds from managers that consider ESG factors in their due diligence. The DOL states: “The purpose of this action is to set forth a regulatory structure to assist ERISA fiduciaries in navigating these ESG investment trends and to separate the legitimate use of risk-return factors from inappropriate investments that sacrifice investment return, increase costs, or assume additional investment risk to promote non-pecuniary benefits or objectives.”

Comments in Response to DOL Proposed Rule

The DOL provided a 30-day comment period about the proposed rule. 8,737 comments were received, including several petition letters signed by thousands of people. An analysis of the comments found that 95% of the comments opposed the rule. Only 4% of comments expressed support. 1% expressed neutral views or recommending changes without clearly expressing support or opposition.

Voya Financial, a publicly traded financial, retirement, investment and insurance company opposed the rule. “We believe that fulfilling fiduciary obligations and ESG investing are not mutually exclusive. Contrary to the DOL’s assertion, recent experience has shown that ESG investments can outperform broader markets, particularly in times of market stress. Ultimately, we believe that ESG factors may help identify material financial risks and opportunities and can drive better long-term investment performance. If adopted as proposed, we believe the proposal would have a chilling and negative impact on ESG investment activities that would otherwise benefit retirement plan savers.”

ESG Investing Battle Of Trump’s Agencies

The CFTC recommends that regulators should ENCOURAGE the integration of ESG factors into investment decisions. It states that making investment decisions using ESG factors does not hurt investment performance across the sample, and, in some cases, it enhances risk-adjusted returns.  The DOL is trying to DISCOURAGE the integration of ESG factors into investment decisions. It states that ESG investing sacrifices investment return, increases costs, or assumes additional investment risk. 

Will the DOL listen to the investment community and the CFTC? Or will it disregard the CFTC’s informed findings and recommendations? Two different hands of the Trump Administration are locked in an ESG investing battle. The investment community now must wait to see which hand wins.

Photo by Goutham Ganesh Sivanandam