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GAO wants more clarification from Labor Department on utilizing ESG factors

The Government Accountability Office is calling for further clarification from the Department of Labor on whether ERISA fiduciaries may incorporate environmental, social and governance factors in their qualified default investment alternative options, along with further information to assist fiduciaries in their evaluation of ESG investment strategies.

The GAO's requests, contained in a report on ESG investing, come about a month after the DOL issued a field assistance bulletin attempting to clarify 2015 and 2016 guidance on ESG investing and shareholder engagement by ERISA fiduciaries.

While the GAO started work on the report prior to the release of the DOL's new field assistance bulletin, the new bulletin was considered in the report released Tuesday.

Ed Farrington, executive vice president of retirement strategies at Natixis Investment Managers, previously told Pensions & Investments that the field assistance bulletin issued on April 23 appeared to set a higher bar for implementing ESG options as QDIAs as opposed to non-QDIAs.

Regarding the selection of ESG strategies as QDIAs, the bulletin said: "Nothing in the QDIA regulation suggests that fiduciaries should choose QDIAs based on collateral public policy goals. In the QDIA context, the decision to favor the fiduciary's own policy preferences in selecting an ESG-themed investment option for a 401(k)-type plan without regard to possibly different or competing views of plan participants and beneficiaries would raise questions about the fiduciary's compliance with ERISA's duty of loyalty."

Regarding the addition of ESG strategies as non-QDIAs, however, the April bulletin said: "Adding one or more funds to a platform in response to participant requests for an investment alternative that reflects their personal values does not necessarily result in the plan forgoing the placement of one or more other non-ESG-themed investment alternatives on the platform. Rather, in such a case, a prudently selected, well-managed and properly diversified ESG-themed investment alternative could be added to the available investment options on a 401(k) plan platform."

In its report, the GAO said that because the new bulletin's discussion of QDIAs focused "on the use of ESG factors for collateral benefits rather than ... because they have been determined by fiduciaries to be material to financial performance," further clarification is needed that "explicitly addresses plans' use of financially material ESG factors in investment options designated as a QDIA."

"Research we reviewed along with detailed interviews we conducted with asset managers, retirement plan representatives and industry stakeholders indicated that ESG factors can be used to address material risks, which might otherwise be ignored, and that there is interest in considering such factors within a QDIA," the GAO said.

Additionally, while the "DOL's new field assistance bulletin provides information on the limitations of using ESG factors for pursuing collateral benefits, additional clarifying information from DOL could help sponsors conduct due diligence in considering whether ESG factors are material to an investment's financial performance and, if so, how to address those material risks," the GAO said.

The GAO added in its report that few retirement plans in the U.S. appear to have incorporated ESG in their investment decisions and that inconsistent data and regulatory uncertainty create challenges for ESG incorporation. Among asset owners and managers who have incorporated ESG factors, improved risk management and performance were cited as reasons for their incorporation.