Fiduciary Duty’s Blurred Lines
UK pension shake-up a chance to clarify boundaries of sustainable investment, but not everyone is in favour of reform.
UK Pensions Minister Torsten Bell says that the government will come out with new draft pensions legislation before Parliament’s summer recess.
Advocacy groups think that this could be a great opportunity to provide clarity over the compatibility of sustainable investments with a trustee’s fiduciary duty to their pension scheme members in order to unlock capital flows for environmentally or socially positive investments.
This is easier said than done, as the exact boundaries of a trustee’s fiduciary duty – and how these relate to sustainable investing – has been hotly debated for decades.
Back in 2023, the previous Conservative government launched a call for evidence concerning trustee skills, capability and culture. It included the question: “Is fiduciary duty a well-understood concept?”
Answers were varied, highlighting inconsistencies in interpretation, especially regarding how sustainability ties into a trustee’s duties.
A similarly wide spectrum of opinion was shared by the pension sector last month during an open forum hosted by UK responsible investment charity ShareAction and the Thinking Ahead Institute (TAI).
“The Labour government has been very explicit that they see pensions reform as a central plank of their economic policy,” Lewis Johnston, Director of Policy at ShareAction, tells ESG Investor.
“We think there’s a real opportunity for [the upcoming Pension Schemes Bill] to include revisions to address the legal duties of trustees to ensure environmental and social objectives are achieved alongside economic ones.”
During the open forum, ShareAction shared their draft proposal outlining what such revisions could look like – supported by TAI and law firm Sackers.
The groups hope that this will now be carefully considered by the government in the context of the new bill.
But not everyone in the room agreed that the proposal was needed.
Opponents pointed to ambitious action already taken by larger pension schemes as an example of trustees’ current ability to explore sustainable themes within the law, arguing that it’s an issue of implementation rather than interpretation.
Others welcomed the proposal, admitting that the existing parameters of fiduciary duty remain too vague, prompting fears of legal action and therefore a very cautious approach to sustainable investing.
“The simple fact that there continues to be so much debate around this issue shows that there does need to be a change in the law to remove some of the ambiguity that exists,” says Andy Lewis, Partner at Sackers.
Rethinking the approach
Fiduciary duty, as it is currently understood, requires trustees to act in the best interests of beneficiaries, prioritising the protection of assets without taking the trustee’s personal investment beliefs into account.
This has historically been translated into a focus on maximising returns while minimising risks.
Last year, The Pensions Regulator (TPR) published a report which revealed a gap between UK pension trustees’ ESG disclosures and their actual investment decision-making processes.
The proposal presented by Sackers, ShareAction and TAI aims to remove this ambiguity, giving trustees the confidence to move beyond disclosures and actively target sustainable investment opportunities.
“You can introduce an enabling provision in legislation that makes it safe legally for trustees to take account of issues […] that they may feel less comfortable [with] if that legislation wasn’t in place. Systemic risks are a good example of this,” says Lewis.
The proposal aims to specifically include systemic risks within a trustee’s fiduciary duty, building on a review published by the Financial Markets Law Commission (FMLC) last year, which stated that diversification alone is unlikely to be enough to avoid systemic risks such as climate change.
“Nobody [has] explicitly written [this] into law,” says Lewis. “If we can introduce wording into the legislation that clarifies [investing to mitigate] systemic risk is safe and something trustees can legitimately think about, then it will ensure they have to do slightly less intellectual gymnastics.”
For trustees to be able to sufficiently manage system-level risks, ShareAction’s Johnson notes that further clarification on the time horizons over which trustees can consider their members’ interests is also needed.
“The time horizon trustees should be considering is the period over which the benefits to their beneficiaries will be payable, rather than trustees focusing only on the lifetime of the scheme itself,” he says.
This is a particularly important clarification to make for pension schemes approaching buyout in the near-term.
“The challenge we are currently facing in the defined benefit (DB) pension world is that, although schemes are managing pots of money for beneficiaries who will be drawing pensions in the longer-term, many of these are thinking about buy-out within the next two to five years,” says Paul Lee, Head of Stewardship and Sustainable Investment Strategy at investment consultancy firm Redington.
That time horizon shift has an impact on investor behaviour and introduces more reluctance to invest in longer-term, more sustainable opportunities, he explains.
Alongside these clarifications, Chris Wagstaff, Chair of the Investment Committee and Independent Trustee Director of defined benefit pension scheme Atkins Pension Plan, notes that it would also be useful for the proposal to include more specific language encouraging trustees to account for the quality of life for beneficiaries alongside standard of living.
“People want to retire into a world that is pleasant, that isn’t ravaged by war or climate change or nature and biodiversity loss,” he says. “Many pension schemes already see this as a core investment belief, but it’s not a point that is incorporated within any relevant regulations or legislation.”
Implementation rather than interpretation
Not everybody is in favour of tweaking fiduciary duty law.
Several reviews have already been published clarifying the boundaries, including by the Law Commission, the Principles for Responsible Investment (PRI) and Freshfields, and the FMLC.
“The extent to which a pension scheme chooses to incorporate sustainability into their investment decision-making is an expression of their beliefs and sophistication. This has nothing to do with fiduciary duty at all,” an investment and pensions professional tells ESG Investor.
“I think this proposal is a waste of time and distracting the government’s focus from where it’s needed to scale sustainable investment.”
After all, the Law Commission, FMLC, PRI and Freshfields – among others – have all stated there are no impediments in the law preventing sustainable investing.
“With this in mind, my question to [those putting the proposal together] is how they are justifying their belief that there is an impediment in the existing law,” he says.
David Russell, Chair of the Transition Pathway Initiative (TPI), also believes that the law as it stands is clear, noting that the issue is more about how advice on fiduciary duty is communicated to pension trustees by their advisors.
“Smaller funds in general lack internal resources in all areas including sustainability and are therefore heavily reliant on the advice they receive from legal teams and pension consultancy firms,” he says, adding that advice can be “very variable” as a result.
The solution perhaps lies in figuring out how to ensure all pension funds are receiving appropriate advice on the exact parameters of a trustee’s fiduciary duty, Russell suggests.
Some of the larger schemes are willing to share the advice they receive on fiduciary duty. The Universities Superannuation Scheme, which has £77.9 billion (US$100.8 billion) in AUM, has publicly shared the legal advice it receives on this topic since 2006.
“The law currently considers the decision-making process, rather than the outcome – i.e. why did the trustee make the investment, not what did they invest,” notes Judith Donnelly, Legal Director of law firm Addleshaw Goddard.
The law is also still not clear in relation to non-financial factors, she says. While it is safe for trustees to make an investment decision based on the expected impact of sustainability factors on risk and reward, it is less clear when trustees can invest in sustainable investments for ethical reasons.
“We have seen numerous clarifications on fiduciary duty over the years, but we haven’t seen enough of a shift in investment behaviour to indicate that these clarifications have worked,” adds ShareAction’s Johnston.
Some think that the government should look beyond fiduciary duty reform, such as by potentially mandating sustainable investment from pensions funds.
To do this, the government could feasibly link a reasonable portion of a pension fund’s assets to tax relief, through which they could essentially tell a scheme how to invest, the investment and pensions professional suggests.
“Another option is to invest through a single pool, such as the National Wealth Fund, where investors could target critical missing pieces to the UK’s transition, such as electric vehicle charging infrastructure and energy efficiency,” he says.
For Redington’s Lee, the solution lies in the education of pension trustees.
“There would be real value in TPR or the Department of Work and Pensions promulgating something off the back of the FMLC work and building it into trustee training,” he says.
“Adjusting the educational base of trustees so that it is clear that they are empowered and need to think about sustainability issues to fulfil their fiduciary duties would likely be more rapidly deliverable than legislative change ever would be.”
No silver bullet
The intent of the proposal isn’t to radically overhaul the existing law, but rather to remove any ambiguity and create more of an enabling environment for sustainable investing, say bodies involved in the work.
“I don’t think anybody is under any illusions that the proposed legislative changes will suddenly open the taps to lots of new capital flowing into green infrastructure,” says Stuart O’Brien, Investment, ESG and Risk Specialist at Sackers.
“The proposal isn’t intended to radically overhaul existing fiduciary duties or to sit awkwardly on top of existing fiduciary duties in a way that might bring the two into conflict. It seeks to put on a statutory footing certain factors that trustees would be permitted to take into account as relevant to the purpose of paying members’ retirement benefits.”
Although the proposal is largely drafted at this stage, bodies involved in the work are keen to continue engaging with the pensions industry on their fiduciary duty concerns, building on the open forum discussion in February.
“Yes, fiduciary duty reform is not sufficient on its own,” Johnston at ShareAction acknowledges. “It’s not a silver bullet, but it is foundational. The legal framework within which that duty is interpreted must be conducive to sustainable outcomes.”
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