As ESG investing has become increasingly politically polarized, we have seen asset managers and other service providers to retirement plans take steps to clarify their neutrality on the issue.
Similarly, retirement plan fiduciaries closely review asset manager disclosures and marketing material when making investment decisions with ESG implications or overseeing voting of proxies associated with plan assets.
These activities may take on even greater importance as Republicans continue to support rolling back environmental, social and governance investing to the greatest extent possible. In particular, if there is an administration change in 2024, we see the prospect of significant enforcement activity across several substantive legal disciplines.
As a result, it may be timely for asset managers and retirement plan fiduciaries to take the opportunity now to confirm that their internal policies, procedures, investment strategies, external disclosures, and marketing materials concerning ESG can withstand what may be intense scrutiny.
ERISA. Although the subject of active litigation, we believe that the standard for making investment decisions involving ERISA assets is clear: Investment decisions must be made for the sole purpose of maximizing risk-adjusted financial returns. Asset managers might offer the same products to retirement plan clients that are subject to ERISA as they do to other clients that are subject to very different legal and regulatory regimes. Given this divide, asset managers face the challenge of ensuring that their communications are tailored to allow ERISA fiduciaries to select their investment products while still ensuring that such products are attractive to other clients and otherwise are aligned with those clients’ overarching business goals and differing legal environments.
The challenge in threading this needle may become more difficult if Republicans see electoral success in 2024. We expect that a Republican Department of Labor would issue broad information requests to ERISA-covered retirement plans to identify plans that (a) offer or have made ESG investments; (b) have invested in funds that have made pro-ESG proxy votes, including in reliance on advice from institutional shareholder advisory services; (c) have discussed ESG factors in fiduciary committee meeting minutes; (d) have considered participant ESG preferences in constructing a 401(k) plan lineup or in making defined benefit plan investment decisions; and (e) have invoked the “tiebreaker rule” to make an investment decision. Armed with this information, we expect the DOL to prioritize audits of plans on these issues followed by enforcement actions. Similarly, the next Republican DOL may intervene in plaintiffs’ suits challenging the inclusion of ESG investments in retirement plans, which in turn may encourage more such suits, and greater scrutiny of such investments by the plaintiffs’ bar. Well-crafted disclosures, marketing material, and advice, along with documentation of investment decisions that track the ERISA standard, may help asset managers and retirement plan fiduciaries withstand this barrage of scrutiny.
2. Antitrust. The federal antitrust agencies have not issued any guidance on the intersection of antitrust and ESG. But enforcers under the current administration have been clear that there is no ESG exemption to the antitrust laws and that otherwise illegal conduct or mergers will not be saved by ESG commitments. Over the course of the past four years, Republican state Attorneys General and Republican members of the U.S. House of Representatives have issued numerous letters and subpoenas to financial institutions seeking information about their ESG investing practices and claiming that such practices may constitute per se violations of federal and state antitrust law. Only one such investigation has, thus far, resulted in a formal lawsuit. The state of Tennessee sued a major asset management firm in 2023 under the Tennessee Consumer Protection Act. Though Tennessee had previously cited antitrust concerns during its investigation, it ultimately did not bring any antitrust claims.
The potential for investigations by federal antitrust agencies is likely to increase substantially if a Republican administration were to take office. During the most recent Republican administration, the Antitrust Division of the Department of Justice launched an investigation into agreements between automobile manufactures and the State of California’s Air Resources Board that set vehicle emissions standards that were stricter than those set by the federal government. DOJ investigated whether the companies reached a joint agreement on emissions targets, but ultimately closed the investigation without bringing an enforcement action. DOJ under a future Republican administration likely would be even more aggressive in its scrutiny of ESG-related activities, including joint commitments to achieve specific ESG goals or targets.
3. Political risk. Congress and federal agencies have shown considerable interest in ESG issues over the past few years, and political division over ESG investing is likely to continue. The DOL in both the Trump and Biden administrations issued rules concerning ESG investing by ERISA plans, and congressional Republicans have investigated several issues related to ESG initiatives. The Republican-led House Oversight and House Judiciary Committees have held multiple hearings on ESG policies on several topics, including consumer protection, ESG investing, and antitrust, and we expect these political investigations to continue in the coming months and next year, particularly if Republicans retain control of the House and/or secure control of the Senate. Ongoing congressional investigations carry risks that financial industry executives could be called to testify or produce documents concerning their ESG practices to Congress.
On the other hand, a second Trump administration may prefer to pursue anti-ESG policies directly, relying on agency investigations and enforcement of ESG policies, such as those described above. This approach would increase the legal exposure of ESG investment funds, separate from (or in addition to) the political risks inherent in the partisan divide on ESG policy.
Financial institutions, asset managers and retirement plan fiduciaries that start planning today for additional scrutiny of ESG are likely to be much better positioned in the coming months and next year, no matter what the political future may hold.
Jason Levy, Ryan Quillian and Matthew Shapanka all work for law firm Covington and Burling LLP, where Levy is an of counsel in the firm's Washington D.C. office, Quillian is a partner in Washington and Shapanka is a special counsel in San Francisco. Covington and Burling Senior Counsel Richard Shea and Associates Jack Lund and Alezeh Rauf also contributed to this article. All three are based in the firm's Washington office. This content represents the views of the authors. It was submitted and edited under Pensions & Investments guidelines but is not a product of P&I’s editorial team.
