Social investing by public pension plans may yield lower returns and be less effective at achieving social goals, according to a Center for Retirement Research at Boston College brief released Tuesday.
The brief, ESG Investing and Public Pensions: An Update, looks back at social investing activity by public pension plans since the 1970s that was partly in response to state mandates to divest from "sin stocks" like tobacco or make economically targeted investments.
More recent ESG investing by public plans "where the goal, at least, is to maintain market or better returns, is definitely a step forward. But both data and theory show that stock selection is not the way to reduce smoking or slow the rise in the earth's temperature," the brief concludes.
When public pension plans focus on social investing, returns can be hurt and beneficiaries' interests may not be met, the brief said. "Most importantly for public plans, the people who are making the decisions are not the ones who will bear the brunt of any miscalculations."
The study was based on 176 plans in CRR's public plans database. For each year from 2001-2018, CRR identified state investment directives for state-administered plans and investment policy statements of both state and local plans, and found that roughly two-thirds currently have either a social investing state mandate or an ESG policy in place. Public pension funds applied ESG to at least $3 trillion in assets, based on 2018 data from The Forum for Sustainable and Responsible Investments, more than half the $5 trillion reported by the Federal Reserve's Flow of Funds report in 2018.
CRR analysts used two types of regressions to measure performance: one looks at the average rate of return for the 160 plans with complete data over the period 2001-2018 and the number of years that the plan had a social-investing mandate or ESG policy; the second equation uses a fixed-effects model that relates one-year investment returns for a given plan over the same period to the presence of either a state mandate or a plan-level ESG policy, controlling for plan size and asset allocation.