From 1 October, trustees of occupational pension schemes with more than one hundred members will be required to set out their policy on how they take account of financially material factors, including environmental, social and governance (ESG) considerations, in their investment decision making. New legislative requirements published on 3 June 2019, mean that trustees also need to address various points relating to their mandates with asset managers in their scheme’s statement of investment principles (SIP) by 1 October 2020.

Some trustees may be tempted to see this merely as a tick box exercise. However, trustees need to consider how they can demonstrate that they are taking ESG factors seriously, as the risks associated with paying lip service to them are increasing.

In the UK, ClientEarth are supporting members who are requesting information about their scheme’s approach to ESG matters and are threatening legal action if the response is deemed inadequate. A similar threat has materialised for the Retail Employees Superannuation Trust in Australia, where a member is taking the Trust to court for failing to disclose information on the potential impact of climate change on his investments and how the Trust is addressing this.

Financially material factors

Case law already requires trustees to take account of financially factors when making investment decisions. The new legislative requirements will make this explicit. Many ESG considerations fall into this category.

For example, the Chief Executive of Volkswagen has warned that German car manufacturers face an existential threat if they do not embrace the move to green technology.

Similarly, the demise of Carrillion and BHS demonstrate how poor corporate governance can lead to the failure of household name companies.

Do you know your E-S-G?

A common mistake in the debate about the extent to which trustees are required to take account of  ESG considerations is the tendency to lump the various risks together. Many also fail to recognise the financial risks (and opportunities) inherent in ESG considerations and simply dismiss them as subjective, non-financial concerns.

Although there are areas of overlap (for example, the failure by a company to address environmental concerns may raise wider social considerations), to address these risks effectively it is essential that the different components of E-S-G and the underlying risks are considered separately. This is the only way that trustees can ultimately determine the extent to which they need to take these factors into account, if at all.


Climate risk is the most high profile environmental risk at present and the legislation specifically identifies it as a risk that trustees must set out their policy on. But climate risk itself is made up of different components, including physical risk and transition risk.

Trustees need to understand what their asset managers are doing to assess these risks and to monitor what investee companies are doing to address them.

Trustees also need to consider the extent to which scheme assets may be exposed to other environmental risks, such as pollution, sustainability and waste generation.


Recent high profile corporate failures have led to the introduction of a new UK Corporate Governance Code. A revised Stewardship Code is also in the pipeline. It is essential that trustees press their investment advisers and asset managers to understand how they are responding to these initiatives and what steps they are taking to engage with investee companies to promote high governance standards.


Trustees should also consider the extent to which they will take account of social (and ethical) factors. Whilst these may affect the financial performance of particular investments, in many cases, they are likely to be non-financial considerations. Trustees can take these into account, for example, where they have good reason to believe that a particular approach reflects the views of members and where this would not be financially detrimental to the fund. But they do not have to and, in many cases, identifying a consensus may not be straightforward.

So what must trustees do?

By 1 October 2019, trustees of schemes with more than one hundred members are required to ensure that they update their SIP to set out their policies on:

  • how they take account of financially material considerations, including climate change and other ESG factors, in the selection, retention and realisation of investments
  • the extent (if at all) to which non-financial matters (such as members’ views) are taken into account in the selection, retention and realisation of investments
  • undertaking engagement activities including the methods by which, and the circumstances under which, they monitor and engage with investee companies regarding issues such as performance, strategy, risks, social and environmental impact and corporate governance, and
  • exercising rights (including voting rights) that attach to their investments.

Trustees will need to be in a position to approve their updated SIP before 1 October. Before they can do this trustees will need to seek advice from the investment advisers on these issues and consult with their scheme’s sponsor on any changes to their scheme’s SIP. Therefore, if they haven’t done so already, trustees need to take immediate action to ensure they will be compliant.

Trustees of money purchase schemes of all sizes must also update their default investment strategy to take account of financially material considerations and, where they are required to produce a SIP in relation to their default fund, they must update this to reflect any changes in their approach.

Trustees will be required to make their updated SIP publically available on their scheme’s website.

New requirements

In a recent change to the Investment Regulations to implement the revised Shareholder Rights Directive in the UK, trustees are also required, by 1 October 2020, to set out in their SIP (or explain why they are not set out) the following matters in relation to their arrangements with their asset managers:

  • how the arrangement with the asset manager incentivises the asset manager to align its investment strategy and decisions with the trustees’ investment policies including their policies on financially material ESG matters;
  • how the arrangement incentivises the asset manager to make decisions based on assessments about medium to long-term financial and non-financial performance of an issuer of debt or equity and to engage with issuers of debt or equity in order to improve their performance in the medium to long-term;
  • how the method (and time horizon) of the evaluation of the asset manager’s performance and the remuneration for asset management services are in line with the trustees’ investment policies;
  • how the trustees monitor portfolio turnover costs incurred by the asset manager, and how they define and monitor targeted portfolio turnover or turnover range; and
  • the duration of the arrangement with the asset manager.

Trustees must also set out the methods by which they monitor and engage with investee companies and other stakeholders in relation to their capital structure and the management of conflicts of interest.

Implementation statement

By 1 October 2020, trustees of money purchase schemes with more than one hundred members will be required to produce an implementation statement setting out:

  • how they have acted on their policies in relation to financially material factors, non-financial factors (if they have one) and stewardship, and
  • the trustees’ voting behaviour during the past year, including the most significant votes cast by the trustees or on their behalf.

Trustees will be required to publish this online in the same way as their SIP and to inform scheme members of its availability via the annual benefit statement (although the information on trustees’ voting behaviour does not need to be published online until 1 October 2021).

A tick-box exercise?

Although some trustees may be tempted to see this as a tick box exercise or to put the onus on their asset managers to ensure compliance, it is important that trustees take this opportunity to:

  • review their investment approach and consider the extent to which ESG factors, including climate change, may be financially material and how this should be reflected in their investment strategy
  • discuss with their investment advisers and asset managers and test how they take account of and monitor financially material factors, including ESG factors, when implementing the trustees’ investment strategy and making investment decisions
  • consider their approach to engagement and the exercise of voting rights and discuss with their investment advisers and asset managers how they approach this
  • consider the extent to which (if at all) they will take account of non-financial factors, such as broader ethical considerations or members’ views, in their investment strategy, and
  • review and, where necessary update, their mandates with investment advisers and asset managers to ensure that they reflect the trustees’ approach and provide levers to enable the trustees to monitor how effectively this is being implemented in practice.

Trustees who simply adopt a tick-box mentality and who fail to properly review their investment approach and their mandates with their asset managers may face criticism from the Pensions Regulator and also from members of their scheme. There is also a growing risk of legal challenge in this area, particularly for high profile schemes.

Scheme sponsors may also be concerned about the reputational damage that could be done if their pension scheme is seen as not taking ESG factors, including climate change, seriously enough, particularly where the sponsor is taking a strong stand on these issues.


Useful resources

ESG and Stewardship: A practical guide to trustee duties – PLSA, June 2019

Recent pension blogs

Pensions Planner – June 2019

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