Wednesday 24 March 2021 12:01 am

Social factors must be at the heart of pension schemes' ESG strategy

Guy Opperman is the Minister for Pensions and Nimco Ali is the CEO of The Five Foundation

Environmental, Social and Governance – or ESG – is the boardroom buzzword of our time. But it must become more than a buzzword, and we must go beyond short-term financial returns in our investment thinking.

We need to adopt investment strategies which deliver long-term value, by considering the risks and opportunities relating to supply chains and communities, employees and business models, local economies and landscapes.

For many people pensions are a thought for the future. But the future is now. While their money is often invested in familiar businesses, those businesses may make decisions and undertake activities that put people’s pension savings at risk. Pensions have huge repercussions for a healthy and stable society.

In October 2019, the Government introduced its first ESG policies, requiring pension schemes to take due consideration of climate risk in their investments. The UK government recently passed the Pension Schemes Act which went even further. From this Autumn, pension schemes will be required to report on the climate risk associated with their investments.

The reality is that social and environmental factors are often linked, and progress in one should not, and cannot, mean sacrificing the other. For example, action on climate change will be undermined if it destabilises local communities. Progress on the environment must not come at the cost of people losing land rights or the evil of modern slavery. 

British pension funds with a trillion of assets under management are exposed to these combined risks. That is why the Government is today launching a formal Call for Evidence on pension schemes’ approaches to social factors, with the aim of informing what steps policymakers can take to ensure that trustees are able to meet their legal obligations.

The International Labour Organisation estimates that across the globe, a staggering 24.9 million people are trapped in forced labour, with many linked to supplying the goods and services the world relies on. It is vital that companies do not only consider their direct employees but the whole supply chain.

Social factors extend to the issues of diversity, gender and the empowerment of women; issues vital to global growth and prosperity. In fact, economic justice for women – particularly in the economically developing world – is one of the biggest opportunities we have for unleashing a new wave of growth, while simultaneously reducing violence and discrimination against women and girls such as female genital mutilation (FGM) and sexual violence. It is truly a win-win situation.

If we are to end the flow of capital towards those who exploit the most vulnerable on our planet, investors must ensure they know what they are investing in.

Pension scheme trustees may say that social factors are nothing to do with them and that they need to focus on returns for their members. Of course, returns are of central importance. But pension trustees have a duty to manage risks, and social factors can pose risks to their investments.

These risks may be caused by reputational damage to companies in which they invest, those companies being sued, or those companies experiencing a big and sudden disaster, like a factory collapsing.

One reason policymakers have focused on climate change is because it is systemic: pension schemes cannot avoid the potential impacts of climate change by avoiding certain investments or sectors. But social factors can be systemic too, particularly if poor practices are replicated across the market and in different sectors.     

It is not just about mitigating risk. Engaging with social factors can also lead to positive, and lucrative, investment opportunities. There are many examples of socially-conscious companies who have been able to successfully differentiate themselves from market competitors and tap into increasing consumer demand. This success, in turn, helps increase returns to the schemes invested in these companies, and their savers.

Further afield, The Five Foundation and others have identified several Africa-based funds which are currently outperforming the market, and which have also increased women’s economic empowerment.

The Government’s Call for Evidence will help increase our collective understanding of what is being done here and around the globe, and what more we can do, to ensure both the risks and opportunities presented by social factors are adequately considered by pension schemes.

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.