Dividend Investing Ideas Center
Critical Facts You Need to Know About Preferred Stocks
Have you ever wished for the safety of bonds, but the return potential...
When it comes to investing, retirement plans are often the break point for a theme, idea or fund type. After all, the vast bulk of investors’ money lies locked away in 401(k)s, 403(b)s or similar vehicles. But plan sponsors can’t just “offer” whatever they like. There are plenty of complex rules on what 401(k)s can place on their investment menus.
Which is the reason why environmental, social, and governance (ESG) offerings are missing from your 401(k), with a few noted expectations.
But all of that is about to change.
Recent moves from the Biden Administration are starting to thaw the ESG ice and allow retirement plan administrators to add the investment theme and its metrics to a wide range of retirement plans. For investors, the moves should broaden their choices and now allow them to add ESG to the bulk of their savings. For the ESG movement, it could be the game changer they are looking for.
Explore our ESG channel to know more about ESG strategies and trends.
Pretty much all 401(k) and retirement plans are very similar in the menu of investments they offer. The funds might be different, but the overall number of choices, asset-classes and even expense ratio maximums are homogeneous. The reason comes down to the Employee Retirement Income Security Act of 1974, or ERISA.
ERISA through its fiduciary requirement standard regulates private retirement plans and the kind of investments they offer. Suitability as well as investor protections are often considered under ERISA rules when it comes to making choices and allowances for plans. The law is enforced by the Department of Labor (DOL), through Presidential directives, which makes the decisions on ERISA. Some of the latest changes and allowances to ERISA have given rise to the requirement of having index investments in plans as well as the use of target-date funds as an all-in-one portfolio selection.
Plan sponsors are often hesitant about making wide sweeping changes to their 401k plans due to running afoul of ERISA rules and the DOL.
Despite being an old form of investing and security selection, ESG has long been absent from retirement plans sans college/university plans administered by TIAA-CREF. The reason comes down to ESG’s being mired in different factors and the fiduciary standard.
For example, if one 401(k) plan offers an S&P 500 index fund and another offers a Total U.S. Index Fund, they both meet fiduciary standards under ERISA. While tracking different indices, they are both similar enough to meet standards for a good low-cost core choice. They’re easy to understand and investors know what they are buying.
The problem with ESG is the sheer difference in screening methods. One ESG provider may avoid certain sectors, while others may include them and rank them differently based on those sectors. My rules for ESG could be different than yours. Do renewables count as ESG or are we looking for more than just solar panels. Under ERISA, ESG screening must “meet these duties of prudence and loyalty as well as being part of a prudent process to support the retirement income interests of the plan’s participants.” Because ESG is different to everyone, plan sponsors often ignore it in order to avoid lawsuits.
Don’t foregt to check our Retirement Channel to learn more about retirement planning strategies.
About a year ago, the Trump Administration strengthened rules that treated ESG investments as “suspect” within retirement plans. The DOL added new language continuing to reinforce the idea that ESG blurs the line between acceptable and breaching the fiduciary standard.
However, that’s about to change.
Back in May, President Biden issued an executive order designed to reverse Trump’s rules from October and force the DOL to take a hard look at ESG and its suitability. The order also calls for the Federal Retirement Thrift Investment Board, which covers the retirement savings plans issued by the Fed’s for federal employees, to do the same thing. Similarly, a bill introduced by Democrats would directly bypass the DOL and allow ESG investments to be considered in ERISA-governed retirement plans.
And it looks like the DOL will deliver.
While the agency hasn’t officially released its rules to the public, The DOL did submit its proposed rules to the White House’s Office of Management and Budget back in August. Because of budget issues and the brinkmanship in Washington, those rules haven’t been made official. However, policy makers expect that the DOL and the White House expect to make those rules public by year end.
Additionally, several other groups and advisory boards have already begun incorporating those rules into their frameworks. For example, the US SIF Foundation, -which is an ESG focused group for investment sponsors, issued an updated version of its five-step guide for defined-contribution plan sponsors. This included the DOL’s pending regulations and what can be done by sponsors to add ESG to their plans and not run afoul of ERISA rules.
Click here to explore the portfolio management channel and learn more about different concepts.
The real win for the DOL’s and Biden Administration’s change of heart is investors. ESG continues to be an in-demand theme for many portfolios. With investors now potentially having the ability to add ESG to their retirement plans, it’s a win-win for retirement savings. Going forward, investors won’t have to choose between investing with their principals or not.
It’s a big win for ESG itself as well. With trillions sitting in 401(k) and similar retirement plans, ESG will enter the big-time when the DOL rules are official and some of that money gets moved into socially responsible investment (SRI) funds. At that point, ESG will no longer be a fad, but a real way of investing.
Use the Dividend Screener to find the securities that meet your investment criteria.