Former Assistant Secretary of the Department of Labor Preston Rutledge on Tuesday reiterated his belief that the controversial Environmental, Social, and Corporate Governance (ESG) proposal from the DOL will be finalized.
Speaking at the Finlocity 401k & Retirement Online Summit, Rutledge, who founded the Rutledge Policy Group upon leaving his post at the Employee Benefits Security Administration, noted that the Office of Management and Budget is currently reviewing the proposal, “a sure sign that it’s in the final stages.”
“ESG is a topic that financial advisors must be aware of and it’s understandable it’s come up during your conference,” Rutledge told interviewer Alan Giancaterino, Finlocity’s Co-Founder. “It will be a topic that 401k trustees are going to ask about, no matter what happens with the rule. It might be changed at the final stage.”
Giving it context, he said defined benefit and defined contribution plans like 401ks are subject to ERISA’s Exclusive Purpose Rule. It sets plan assets apart from other institutional assets. Investments made for the exclusive purpose of providing benefits for plan participants has long been understood to require the consideration only of financially material factors.
The core of the new proposed rule from the DOL is really just repeating the long-standing position, that goes back decades, that a plan fiduciary, regardless of the type of investment factor it’s looking at, cannot sacrifice return or accept higher risk in the pursuit of collateral benefits. By collateral, the DOL has always meant non-financial goals.
“You can kind of see that the exclusive purpose rule might bounce up against a concept of investing for some other kind of purpose,” Rutledge argued. “Exclusive is a pretty strong phrase, and it’s been in the law since it was passed in 1974. But keep in mind the kind of ESG factors that would enhance the economic value of the asset is okay. The kind that pursues non-financial goals, however, is the kind that might become problematic.”
Whatever the outcome with the proposal, sound advice from a plan’s retirement investment advisors is going to be crucial, he added.
“One last thing to remember, whether it’s E, S or G, is that there has always been a really important purpose built into ERISA,” Rutledge explained. “You could call it a social goal, but it’s to promote the financial security of workers in retirement. That’s a very sound and worthy goal, and the preamble to the rule points that out.”
Private equity informational letter
The department’s recent private equity information letter was also a topic of discussion.
“It’s not a proposal waiting to be finalized, it’s operative now,” he emphasized. “The letter is a good development for plan participants. There are participant protections built into the letter. A concern for everyone, including those at this conference, is that we have to help defined contribution plan savers find higher returns. We’re living in a world, for at least a decade, of long-term low-interest rates. It poses a very serious threat to retirement security.”
Private equity has the potential to be part of the solution, he argued, if, in the context of a 401k plan, the relative lack of liquidity, long investment horizons, and similar issues can be accounted for.
“The DOL letter tackles all of these challenges in a very responsible way. For example, with fees, the letter’s focus is on risk-adjusted returns net of fees. Regarding asset valuations, the letter makes the point that those asset appraisals should be conducted independently. And to mitigate volatility that sometimes occurs with private equity, a multi-asset fund should probably limit it to 15% or less.”
He concluded with something of a call to action, noting that the letter’s critics should offer their own ideas about how retirement plans savers can overcome the challenge of achieving better investment returns in this low-interest-rate environment.
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.
