With environmental, social and governance factors rising in prominence within the pensions sector, trustees are tasked with demonstrating leadership in an area that is both complex and continually developing.
The growing demands of ESG practices warrant a renewed focus on the skills and capabilities that trustees bring to pension schemes.
On the back of heightened regulatory and commercial demands, trustees are embedding innovative climate-aware practices into the running of their schemes, all while managing the reporting burden of the nascent area.
Research produced by the Pensions Management Institute and BMO Global Asset Management in 2021 found that 53 per cent of trustee boards now consider ESG an important agenda item.
It is easy to get bogged down in all the regulatory requirements, which can feel like a significant extra burden on trustees
Sophia Harrison, Punter Southall Governance Services
The rate was just 29 per cent in the previous year, a clear indicator of the rising prominence of these topics within the sector.
But as demands intensify, ensuring that trustees and leadership teams have the required expertise to fulfil their duties is growing in importance.
Finding momentum
Burges Salmon senior associate Kate Granville Smith says trustees will be “forgiven” for finding the subject of ESG “intimidating” and leaving them “wondering where to start”.
As such, their first task is to ensure they have the basic knowledge and understanding of the subject and their responsibilities, with guidance from the Pensions Regulator forming a “useful reference point”.
Most recently updated in September, the watchdog’s guidance on the governance and reporting of climate-related risks and opportunities describes the requirements trustees are expected to meet.
This includes embedding climate change considerations into decision-making processes and supplementing this with analysis consistent with the Task Force on Climate-related Financial Disclosures requirements.
But the inclusion of ESG factors in the day-to-day running of schemes leaves trustees with a heightened workload, often involving them conforming to burgeoning regulations and governance procedures.
In July, the then pensions minister Guy Opperman accepted that the regulatory push towards ESG inclusion placed “a significant number of burdens on trustees and their investment managers”.
Punter Southall Governance Services client director Sophia Harrison says: “It is easy to get bogged down in all the regulatory requirements, which can feel like a significant extra burden on trustees.
“Trustees can use these regulatory requirements to improve their approach to ESG, how it’s governed, how decisions are made, reporting and even how they invest their assets,” she adds.
The ESG space is continually evolving, with developments across the environmental and financial sectors having an impact on the work being done by trustees. As trustees look to the future of ESG, keeping up to date with knowledge and developments “will be key”, Granville Smith says.
One development on the horizon is the broadening of TCFD climate reporting obligations. Smaller schemes, and therefore an increased number of trustees, will be expected to put the necessary governance arrangements in place to manage climate-related risks.
Granville Smith points to four key areas where trustees will have to develop both the knowledge and practical frameworks: governance, strategy, risk management and metrics, and targets.
Managing this “may require an increased sophistication in terms of skills”, in specific areas such as scenario analysis, data management and forecasting.
Driving progress
Given the responsibilities placed on trustees on behalf of scheme members, there is an inherent duty to provide ESG capabilities in line with savers’ expectations.
Within the defined benefit space, the schemes that have made the most progress are the ones where the trustees recognise that “ESG and sustainability are core components of fiduciary duty”, Harrison says.
Confirming this, the Law Commission has indicated that tackling ESG issues and fiduciary duty is likely to form part of the 14th Programme of Law Reform.
“Although a long way off, any clarification in this area will help more trustees to develop their ESG approach further,” Harrison adds.
In the defined contribution space, she notes that trustees should look to apply their expertise by offering investments with “enhanced ESG characteristics” to members.
Scottish Widows’ 2022 ‘Green pensions report’ finds that 72 per cent of employees want their employer to invest their pension sustainably. As such, trustees should be “taking this into consideration” when determining the investments to make available for members, Harrison adds.
Trustee boards must be able to demonstrate that progress on ESG matters is based on evidence, says Charlie Stainforth, chief executive of leadership coaching company Circl.
He says that being an ESG leader means being aware of “personal and systemic biases” and having the tools to “actively challenge them” to drive change.
Inclusivity underpins this, but commitment is needed to be aware of the biases that subconsciously underpin decision-making processes, Stainforth notes.
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“An inclusive leader needs to make diversity and inclusion a priority by devoting time and energy to it, and by delivering on an action plan to reach their goals,” he says.
Being open about their commitment could be as “simple as telling other people about it, encouraging conversations, asking for feedback on their approach, challenging the status quo and actively listening to others”, he adds.
In doing so, leaders can create an inclusive culture that embraces the ethos of ESG whereby the whole team “feels valued and aligned with the same purpose”, Stainforth concludes.
