ESG and Environmental Concerns in Pensions: A Growing Priority

With increasing pressure on pension schemes to invest in environmentally conscious projects, what reforms are taking place to improve transparency and incentivise trustees? 

First published in The Scotsman

30 April 2024

Plants growing from coin

ESG continues to be a key focus across businesses, with environmental concerns remaining at the forefront of decision-makers’ minds. This is particularly the case in the pensions landscape. 

With the 2050 net-zero deadline set by the Paris Agreement steadily approaching, and notwithstanding the challenges in meeting earlier deadlines, many stakeholders expect pension scheme trustees to be a driving force in the bid to achieve this goal. 

Vast amounts of investment will be required in the renewable energy and other environmentally focused sectors if net-zero goals are to be met, and many believe the capital held by pension schemes could account for a significant proportion of this investment. 

Reforms to facilitate ESG investing

Legislative and regulatory reform is focused on facilitating pension schemes to review existing investments and to consider investing in an environmentally conscious manner. 

The climate-related disclosure regulations for pension schemes came into force in 2021, intending to improve the transparency of scheme investment decisions. 

Larger pension schemes must now disclose their consideration of environmental factors when making investment decisions, with the requirements potentially being extended to smaller schemes in the future. This builds on existing obligations for pension scheme trustees to document their approach to ESG in their statement of investment principles. 

The Pensions Regulator has highlighted that climate reporting should be the output of strategic decisions made by the trustees, however it is unclear to what extent these regulatory requirements have influenced the underlying investment strategy of pension schemes.

Trust law duties on pension scheme trustees

Pension trustees may be under pressure from stakeholders to not only integrate and report on environmental factors in their decision-making process, but also to fund environmental projects. They do however remain constrained by underlying trust law and regulations. 

The general investment power of pension trustees, while broad in terms, underpins the aim of the scheme to ensure positive member outcomes. The trust law duties on pension scheme trustees when making an investment decision bring into play consideration of financial factors and non-financial factors. 

primary consideration for pension trustees when considering an investment remains financial suitability and risk factors Specific ESG investment may fit squarely into a sound investment but investing into some environmental projects may be challenging depending on the risk profile and potential return. In any case, clear investment advice would be required.

Development in Scottish private trust law

There has been some development in relation to ESG investing in Scottish private trust law with the introduction of new trust legislation. While this awaits a date for commencement, once live, this legislation explicitly provides trustees of newly created private trusts with power to take non-financial considerations into account when considering investments. 

The Act does not currently apply to pension schemes and it remains to be seen whether non-financial considerations will be extended to include them. It is, however, a notable change in moving away from core financial return considerations for trusts.

Evolving opportunities

Despite the constraints of the legislative framework, environmentally conscious investments by pension trustees are expected to become more common with 95% of pension funds and insurers expected to increase their investment in renewable energy assets in the next five years according to a survey by AlphaReal. 

While a drastic change in investment strategy by pension trustees is not immediately expected there are evolving opportunities for trustees to invest in a climate-conscious way.

Shepherd and Wedderburn is headline sponsor of All-Energy, the UK’s largest renewable and low-carbon energy exhibition and conference, taking place in Glasgow on 15-16 May. Visit the All-Energy hub to find out more. 

This article was co-authored by Jamie Hadden