Despite an uptick in environmental, social, and governance (ESG)-focused conversations in the defined contribution market, ESG-oriented investment options face headwinds to widespread adoption, according to Cerulli Associates.
The Boston-based global research and consulting firm notes that fee sensitivity, the (mistaken?) notion that ESG investing entails a trade-off in performance, and the regulatory environment in the DC market present barriers to adoption.
Cerulli survey data shows that plan participants and plan sponsors are generally supportive of ESG-oriented investments in concept.
More than half of participants agree with the statement, “I prefer to invest in companies that are environmentally and socially responsible.”
Additionally, 46% of 401k plan sponsors describe ESG factors as a “very important” consideration when selecting 401k plan investments.
However, plan sponsor perspectives on ESG factors differ when contextualized with other investment attributes.
When Cerulli asked plan sponsors to identify the top-three most important attributes when selecting 401k plan investments, “environmental and social responsibility” ranked last, with 16% of responses.
Long-term investment performance and cost of investments were the top-ranked attributes, gathering 45% and 38% of responses, respectively.
“Data shows that plan sponsors care about ESG factors, but they place a greater emphasis on performance and price,” Dan Cook, a research analyst in the retirement practice at Cerulli, said in a statement.
ESG guidance
Guidance issued by the Department of Labor in 2018 explicitly scrutinized the use of ESG-themed investments as a plan’s qualified default investment alternative (QDIA).
“The best path for ESG-oriented funds to gather assets in the DC market is in a QDIA role, but this recent guidance and the idiosyncratic nature of ESG investing create significant hurdles,” Cook added. “This guidance raises an important point related to ESG investing in a DC plan context. ESG investments must be prudent options for all plan participants, not a select group or sub-segment.
For example, a small business owner may have strong convictions regarding environmental and social issues and prefer to personally invest in accordance with these views.
“This does not mean that participants in the business owner’s 401k plan should be automatically enrolled into an ESG-oriented target-date fund without sufficient due diligence conducted on non-ESG alternatives,” Cook concluded.
With more than 20 years serving financial markets, John Sullivan is the former editor-in-chief of Investment Advisor magazine and retirement editor of ThinkAdvisor.com. Sullivan is also the former editor of Boomer Market Advisor and Bank Advisor magazines, and has a background in the insurance and investment industries in addition to his journalism roots.
