After the seeds of change were sown in pensions legislation six years ago, the concept of environmental, social, and governance (ESG) has firmly taken root in the pensions industry.

The Pensions Regulator’s (TPR’s) recent ‘Market Oversight’ report (the ‘Report’) sheds critical light on trustees’ efforts to meet their ESG duties.

What’s the Report about?

The Report delves into how pension scheme trustees are meeting their ESG duties, with a particular focus on actions related to climate change (which earns a specific mention within pensions investment legislation). It aims to guide trustees and their advisers on fulfilling these obligations effectively, highlighting areas of improvement and best practices.

Key findings

While an overwhelming majority of trustees are ticking the compliance box for ESG-related disclosures, many are only delivering the absolute minimum required. The pivotal findings highlighted were:

• Many trustees are meeting only the basic disclosure requirements without demonstrating genuine engagement with their ESG policies.
• There is a notable lack of transparency and oversight when activities are outsourced to managers.
• In respect of investments in pooled funds, trustees often feel they have limited capacity to influence underlying managers on ESG-related decisions.

Trustees’ duties

Trustees hold a fiduciary duty to safeguard members by making investment decisions that consider financially material risks and opportunities, including those related to climate change. To comply with investment regulations, trustees of schemes with 100+ members must ensure that their Statement of Investment Principles (SIP) and Implementation Statements (IS) are publicly accessible and detailed enough to demonstrate proactive management of ESG risks and opportunities.

TPR offers some recommendations on how trustees can effectively approach ESG matters:

• Allocate sufficient time and resources to preparing comprehensive SIP and IS documents.
• Adopt a proportionate approach to managing ESG-related risks and opportunities – although if a material financial risk is identified and trustees are concerned that they lack the expertise/scale to manage it, then consolidation might ultimately be the solution to protect members.
• Take ownership of ESG policies rather than relying solely on asset managers.  Merely confirming that matters have been delegated is not enough: TPR expects to see evidence of trustee oversight and engagement.
• Integrate ESG considerations into the evaluation and incentive structures for asset managers.
• Actively review and influence pooled fund managers’ ESG policies and practices.
• Ensure detailed, scheme-specific disclosures about voting activities and ESG-related decisions.

Beyond minimum compliance – and what might be next

Calling a focus on mere compliance with ESG requirements “a missed opportunity”, TPR has warned that ESG disclosure reporting requirements are “likely to continue to expand”, and so early adoption of voluntary reporting on, for example, nature, biodiversity and social factors is being encouraged.

Indeed, one way in which ESG duties may expand for some schemes is in respect of Taskforce on Climate-related Financial Disclosures (TCFD) reporting and governance.  Since 2021 larger pension schemes have been obliged to comply with additional climate change governance requirements in line with the TCFD, including the preparation of a detailed report for publication. An expansion of TCFD reporting obligations to smaller schemes was previously mooted by the DWP but, while there has been no sign yet of that happening, it is another example of the intended direction of travel from a regulatory perspective.

The Report underscores TPR’s view that trustees should be looking to elevate their regulatory compliance from baseline to best practice, ensuring they safeguard their members' futures effectively amidst the growing ESG landscape. TPR’s recommendations offer useful tips on how to achieve that.

If you have any questions on the findings of the Report or on trustees’ duties, please contact Richard MacDonald or your usual contact in our Pensions team who will be happy to help and can offer expert guidance.

Richard is a member of our ESG Strategy Group and the 2050 Climate Group’s Young Leaders Network.

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