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Freshfields Risk & Compliance

| 5 minutes read

The elephant in the room: ESG considerations for UK pension scheme investments – latest developments

In 2023, the Pensions Regulator (TPR) issued its first fine to a pension scheme trustee for failing to comply with climate change reporting obligations. The trustee of the ExxonMobil Pension Plan was fined £5,000 for its lack of compliance with the Occupational Pension Schemes (Climate Change Governance and Reporting) Regulations 2021 (the Reporting Regulations), which put in place new reporting requirements in line with recommendations from the Task Force on Climate-related Financial Disclosures (TCFD). 

The Reporting Regulations are phasing in increased reporting obligations for scheme trustees, as they are required to identify, monitor and manage climate-related risks and opportunities. Whilst the fine issued may seem insignificant in value, the action TPR has taken is indicative of the fast-changing landscape for pensions schemes and their managers and trustees, and how easy it is to now be caught out. While Environmental, Social and Governmental (ESG) factors have previously taken a back seat to other investment considerations such as balancing risk reduction with seeking returns, increased focus from stakeholders, including members, regulators and government means that trustees must ensure that they stay on top of their obligations and adapt to shifting expectations and requirements. 

Pension scheme trustee duties 

The baseline obligations for scheme trustees in relation to how they should invest scheme assets are their fiduciary duties and core trust law requirements relating to investment. The question of how consideration of ESG issues can be integrated with these baseline duties has been a key topic of discussion as awareness of the significance ESG factors has grown. Whilst the Reporting Regulations have placed new duties on scheme trustees to make disclosures, they have not altered the fiduciary and trust law investment duties. When faced with issues such as how to achieve net zero, adaptation to climate change and beneficiary quality of life, trustees will need to consider how they meet their broader fiduciary duties with care, taking into account not such matters as the following: 

  • how external, climate change related factors, risks and opportunities may affect a scheme’s portfolio and their ability to provide benefits to scheme members;
  • ‘financially material’ factors, including how climate change and ESG considerations may impact the sustainability of investments in the long term;
  • how, in such circumstances, they can act in accordance with the ‘prudent person’ principle, with our understanding of what is ‘prudent’ is potentially shifting as our understanding of climate change related risks also changes over time. 

While TPR has no supervisory power over trustee investment decisions, it has said that it views the disclosure requirements as allowing it and other stakeholders to check whether trustees are taking appropriate action to protect members’ interests and that schemes have resilient, sustainable investment strategies in the face of climate change. 

In its report on the enforcement action it took, TPR highlighted the significance of visibility for stakeholders, stating that the requirements “help ensure transparency, so that savers can be assured trustees are making decisions which take into account climate risks and opportunities”. This approach appears to view the growing awareness of climate change issues amongst consumers, and an accompanying focus on the sustainability credentials of pension schemes and their investments, as a means of applying pressure and driving changes in investment strategies. As TPR executive director of frontline regulation, Nicola Parish, has said, “savers deserve to be in well-governed schemes which protect their retirements by appropriately managing and reporting on ESG and climate related risks and opportunities”. The rising profile of groups which campaign for green pensions, such as Make My Money Matter, shows that such pressure to adapt is coming from a market perspective and TPR seems intent on using its regulatory tools as a way of facilitating this. 

This approach gives the context for the enforcement action taken against the ExxonMobil trustee. The penalty imposed on the trustee by TPR indicates that it will be actively monitoring schemes, and taking enforcement action where compliance is insufficient, even in cases where the breach is inadvertent. The ExxonMobil trustee blamed its non-compliance on the deficiencies of a third-party provider, but legal responsibility remained with the trustees.

Current developments 

It is clear then, that ESG considerations will become an ever more pressing concern for pension scheme trustees in the coming years. Other industry developments will play a part in this. In September of this year, the Taskforce on Nature-related Financial Disclosures (TNFD) released its final recommendations, including recommended disclosures structured around four pillars: governance, strategy, risk and impact management, and metrics and targets. Whilst these recommendations do not currently place any further legal obligations on trustees, they point to the continually developing awareness of the environmental aspect of ESG, and may be adopted by scheme trustees wishing to be at the forefront of industry practice and further their green credentials as much as possible. 

In line with this trend in relation to environmental matters, the Taskforce on Social Factors (TSF) was launched in February 2023, focusing on matters such as workforce conditions, modern slavery, community engagement and supply chains. On 19 October the TSF launched an industry consultation including 35 recommendations on how schemes can integrate consideration of social factors into investment strategies and decisions; the consultation closed on 1 December 2023. 

Again, this highlights the growing prominence of ESG factors, and especially the ‘S’ factor, which has historically received less attention. In its report, the TSF proposes that the DWP "consider formally setting out expectations" on social factors. Just as the TCFD recommendations were reflected in the Reporting Regulations, it may be that additional regulations, based on the final recommendations that result from the TSF consultation, will be brought forward in the coming years. 

The bigger picture 

We have focused here on the UK, but these issues are also subject to growing scrutiny and legislative action in other jurisdictions. In the EU, the Sustainable Finance Disclosure Regulation, which sets out a reporting framework similar to the UK’s Reporting Regulations, have applied since March 2021. In addition, the European Insurance and Occupational Pensions Authority (EIOPA) has stated a goal of conducting regular climate related ‘stress tests’, with the aim of ensuring that the investment strategies that funds and insurers are using fit in with wider sustainability targets in the EU. Similarly, in the US, a Department of Labor rule requires pension funds to assess their investment strategies in terms of their long-term sustainability. One the US’s largest pension funds, the New York City Employees’ and Teachers’ Retirement Systems Fund, has also approved a wide-ranging plan to achieve net zero investment by 2040, with strategies including climate solutions investments, emissions disclosure and a continued shift away from fossil fuels as part of the scheme’s portfolio.

This echoes the situation in the UK, with several of the largest UK pension funds having committed to achieving net zero investments in line with, or even before, the Government’s target of net zero carbon emissions by 2050. For example, the trustees of the Universities Superannuation Scheme and the NatWest Group Pension Fund are committed to achieving net zero by 2050 (with interim targets in place), and the BT Pension Scheme trustee is committed to doing so by 2035, a particularly ambitious timetable. 

It Is clear then, that ESG and sustainability issues will only grow in prominence in connection with pension scheme investments, and the actions (or lack thereof) of trustees will be subject to increasing scrutiny. Lou Davey, the TPR director of regulatory policy, analysis and advice, has said: “For too long, too few trustees focused on climate, ESG and wider sustainability issues in any significant detail, however, trustees can no longer ignore the elephant in the room”.

Whilst the reporting regime under the Regulations has only been phased in for the largest pension schemes so far, their reach will increase as smaller schemes fall under its remit. It is therefore critical for trustees to take action to improve their policies and reporting, for the sake of not only regulatory compliance, but to ensure they are best placed to face the challenges of a swiftly changing market and economy. 


esg, pensions, thepensionsregulator, tpr