DC Plan Priorities Make ESG More Palatable

Investment consulting firm NEPC has published the results of its latest survey of corporate defined benefit (DB) and defined contribution (DC) plan sponsors, this one focused on the use of and attitude toward environmental, social and governance (ESG) investing.

As the results show, the majority (88%) of plan sponsors have not incorporated ESG into their DB or DC plans. Of the 12% of respondents who have incorporated ESG, most (70%) are DC plans, and more than half (62%) are healthcare-focused organizations.

Brad Smith, partner in NEPC’s Corporate Practice, points out that nearly a third of respondents suggest they have not yet implemented ESG investments but are interested in doing so in the future.

“The survey findings solidify our belief that institutional investors can capitalize on opportunities created by ESG as long as it makes sense for them,” Smith says.

Smith further suggests one reason DC plans are outpacing DB plans in terms of ESG adoption has to do with a difference in pressing priorities, rather than doubts among DB plans of the viability or usefulness of ESG.

“Right now, for example, a big focus for DB plans is closing funding gaps, and while ESG may reduce risk over time, these plan sponsors often prioritize purely financial factors versus sustainability to drive excess returns,” he explains. “On the contrary, it was not surprising to see healthcare adopting ESG at higher rate than its corporate peers, given the nature of the industry and the fact that many of these organizations are mission-driven or faith-based.”

NEPC’s data shows many healthcare organizations have historically included ESG or socially responsible investment (SRI) option within their DC plan, which is the primary reason why the survey findings show more ESG adoption by DC plans than other plan types.

According to NEPC, the vast majority (94%) of the DB plans surveyed are not incorporating ESG today. Among this group, more than half (59%) state long-term risk and return factors are their most important consideration when evaluating a potential investment, followed by diversification (39%).

“Plan sponsors that want to consider incorporating ESG should remember that the concept is rooted in strategy and process, not investment products,” comments Kelly Regan, senior consultant at NEPC. “Incorporating ESG is a journey with a variety of implementation approaches, and interested parties should explore the best course of action to meet their specific goals and objectives.”

The NEPC experts suggest institutional investors that are considering ESG should start with education, as well as evaluation of whether or not ESG is already part of their current investment manager lineup.

“Plan sponsors may be surprised to find that managers who were selected for financial reasons also incorporate material ESG factors into their investment process,” Regan notes.

Notably, the majority (84%) of the plan sponsors surveyed that are not including ESG factors today said they haven’t been asked by DC plan participants to consider incorporating ESG.

“Millennials are emerging as a generation that favors ESG relative to others, so as they become a larger part of DC programs, it’s not unreasonable to expect more requests for ESG-related investment options,” Smith concludes. “However, there are many additional factors aside from participant demand that need to be considered when contemplating the addition of an ESG investment option to a DC plan – not the least of which is ERISA guidance on the topic.”