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The Labor Department Steps Backward

Expresso Editor’s Note: The US Department of Labor's (DOL) proposed rulemaking "Financial Factors in Selecting Plan Investments" was published in today's Federal Register. Accordingly, the comment period is scheduled to end on July 30, 2020. Comments may be submitted electronically at . The Heartland Network will be working to generate letters to the DOL during the 30-day comment period to oppose this kneejerk reaction. We support the AFL-CIO’s demands that DOL extend the period to 120 days, so that working people can have their voices heard during this pandemic and economic crisis.

The US DOL has proposed a rule change designed to discourage and obstruct responsible investment by US retirement plans.[i] This rule change runs counter to the direction of change in the investment industry and counter to the wishes of a large and growing number of individual investors and plan participants. Further, the Trump DOL’s goal is to squeeze out, in the next six months, an onerous new regulation with the force of law, not just another interpretive bulletin.

Consider the following:

  • In 2019, US retail investors had access to at least 303 responsible investment funds, covering the full range of assets classes, that incorporate a focus on environmental, social and governance (ESG) considerations in investment decision-making. Flows into these responsible funds totaled $21.4 billion in 2019, a nearly fourfold increase over the previous record, which had been set in 2018.[ii]

  • Sixty-five percent of those 303 funds outperformed their peer groups according to Morningstar on a one-year basis, 67% on a three-year basis and 64% on a five-year basis.[iii]

  • The US Government Accountability Office, based on a review of years of rigorous, peer-reviewed academic studies, confirmed that responsible investments perform as well or better than conventional investments.[iv]

  • Major asset managers, including the world’s largest, BlackRock, have declared their commitment to considering ESG factors in selecting and managing investments. In his 2020 letter to CEOs, BlackRock’s Chairman and CEO, Larry Fink, stated bluntly: “We believe that sustainable investing is the strongest foundation for client portfolios going forward.”[v]

  • Registered members of the United Nations Principles of Responsible Investment (UN PRI), the leading responsible investment membership organization, manage over $100 trillion in global investment assets.[vi]

  • Responsible investment is more than an abstract concept, particularly for younger investors. For example, climate change, a key issue for responsible investors, is seen by many as an existential threat. By the time workers in the millennial and younger generations retire, the effects of climate change, if unchecked, will be part of everyday life including coastal inundation, extreme weather, fires, food disruptions, new disease patterns, forced migrations, and mass extinctions.

  • Ninety percent of active millennial investors want responsible investment options included in their 401(k)-type plans.[vii] The views of younger workers matter to the retirement system. Millennials already represent the largest generation in the US workforce.[viii]

Responsible investment has matured into a dominant force in global finance and interest in responsible investment by individual investors has made it the fastest growing segment of the retail investment universe. The DOL’s proposed rule appears aimed at checking this tide – at least for ordinary Americans. Since the investable assets of most Americans are in their retirement plans, the DOL is, in effect, telling them: “We do not want you to be part of this change. We do not want you exercise your rights as owners and creditors of public corporations to address the environmental, social, and governance impacts of your own investments.” With $3.2 trillion in US private defined benefit pension plans and another $7.9 trillion in US 401(k)-type defined contribution plans[ix], there is a lot at stake. This could also affect public pensions, which aren’t governed by but typically follow ERISA guidelines.

In what may be the waning days of the Trump administration, the DOL now seeks to up-end decades of precedent dating back to the Carter administration, which have allowed ERISA-regulated retirement plans to invest responsibly under appropriately strict conditions.

Some brief background: ERISA fiduciaries have always been required to act exclusively in the interests of retirement plan participants. In selecting and managing investments they have always been required to act with care, skill, prudence, and diligence appropriate to the industry as well as to comply with specific statutory and regulatory requirements. Since investing involves risks and financial outcomes cannot be guaranteed, ERISA compliance in practice means that fiduciaries adopt, diligently implement, and document investment procedures meeting these strict standards.

Following the enactment of ERISA in 1974, questions arose about whether considerations other than financial considerations could play any role in investment selection and management by retirement plans. The DOL and courts came up with a two-part answer. First, the “interests” of plan participants that ERISA fiduciaries must exclusively serve are financial interests. Stated differently, a plan fiduciary cannot subordinate anticipated financial return to other considerations in making investment decisions – even considerations that arguably would bring non-financial benefits to participants.

Second, however, a plan fiduciary choosing among investments with comparable risk and return characteristics can choose an investment that offers a non-financial collateral benefit such as a socially beneficial impact. This is sometimes referred to as the “all things being equal” test. In other words, investments can be selected based, in part, on a socially beneficial non-financial impact provided there is no sacrifice in anticipated risk-adjusted return relative to comparable investments.

Based on this framework, pension plans have been investing for decades in a range of responsible investment funds. This includes major labor-sponsored and labor-friendly investment funds such as the AFL-CIO Building Investment Trust (BIT), and the Multi-Employer Property Trust (MEPT), with billions of dollars in assets and decades-long track records in building affordable and workforce housing and sustainable construction. DOL’s backwards step could hamper the stellar work of these legacy institutions.

The DOL now proposes to throw major obstacles in the path of this responsible investment activity by substantially expanding the due diligence and documentation required of pension plan fiduciaries to justify their responsible investment decisions.

If the new rule were to be adopted, fiduciaries seeking to invest responsibly would have to demonstrate one of the following:

  1. That the ESG factor or factors being considered would be regarded as material economic considerations by “qualified investment professionals … under generally accepted investment theories” or

  2. That the fiduciary is choosing among investment alternatives that are “economically indistinguishable” in selecting one that offers a non-financial ESG benefit. The proposed rule states the fiduciaries must document “specifically why the selected investments were determined to be indistinguishable….”[x]

The problem with the first requirement is that it tips the burden of proof against responsible investments. As noted, responsible investments generally perform as well or better than conventional investments. However, under the new rule, the DOL proposes to micro-analyze, in an enforcement context, the investment selection process for responsible investments by providing that a fiduciary may only consider a specific ESG factor if it would be treated as economically material by qualified investment professionals under “generally accepted investment theories.” It will generally be easier for an analyst to recognize the negative materiality of expenses needed for a company to avoid an adverse ESG impact than to assign a precise material value to the generalized positive potential of a company that better manages its ESG impacts or is better positioned for future change. An industry effort is underway to expand the scope of ESG factors recognized as financially material, led by the Sustainable Accounting Standards Board (SASB).[1]

The problem with the second requirement is that it creates an extremely complex documentation hurdle for ESG factors that cannot be shown to be financially material. As noted, fiduciaries have long been permitted to choose an investment that offers a collateral ESG benefit from among competitive investments with comparable risk/return characteristics. Given that forecasting investment return and risk is an inexact science at best, significant classes of investments can be considered to have comparable risk/return characteristics on a forward-looking basis. Now the DOL proposes to tighten the screws. Only investments that are “truly economically indistinguishable” can be considered in applying the “all things being equal” test, and this analysis must be formally documented. Since every investment has some distinguishing economic characteristics, this is a ridiculous hurdle to clear. Moreover, the DOL’s implicit premise is simply wrong. It is vastly overstating the predictive power of forward-looking investment analysis to suggest that investments must be “economically indistinguishable” to present a comparable risk/return profile.

The DOL’s own commentary on the new rule lets the cat out of the bag:

The Department expects that true ties [among investments] rarely, if ever, occur….Nonetheless, because ties may theoretically occur and the Department does not presently have sufficient evidence to say that they do not, the Department proposes to retain the current guidance’s “all things being equal” test. [xi]

While averring that it is acting consistently with relevant precedent, the DOL is making clear that it is inclined to abolish the “all things being equal” test which, for decades, has been an essential part of that precedent and the foundation for responsible investing under ERISA. At a minimum, fiduciaries can justifiably perceive in this commentary an enforcement philosophy that is extremely skeptical of the “all things being equal” rationale for responsible investments. This enforcement philosophy, if left in place, would likely impact responsible investment comparably to an outright abolition of the “all things being equal” test.

The investment industry should work hard to distance itself from the proposed DOL rule change for a number of reasons:

  • If the DOL means to reinforce that ERISA fiduciaries should choose investments based on financial performance considerations, then responsible investing in retirement plans should be the norm, not the exception. While it may be difficult to document the financial materiality of a specific ESG factor, the fact remains that, in general, responsible funds have performed as well or better than conventional funds. A genuine concern about plan participants’ future account balances would lead to facilitating, not obstructing responsible investment in retirement plans.

  • If the enforcement micro-analysis proposed to be applied to responsible investments were applied equitably across all investment types, the result would be a nightmare for plan fiduciaries and investment managers. For example, ERISA fiduciaries could be required to document that each of the proprietary selection criteria applied by the managers of actively managed conventional funds are financially material. In general, actively managed stock funds have a mixed performance track record relative to index funds, so this documentation requirement could prove difficult to meet on a consistent basis.


The DOL’s proposed rule-making, openly intended to discourage and obstruct responsible investment in ERISA-regulated retirement plans, profoundly misses the current moment in which responsible investing has matured into a major force in the investment industry and in which a rapidly growing number of individual investors, including retirement investors, want more responsible investment options. The DOL seeks to frame the issue as a choice between applying ESG standards in investing or achieving competitive returns. That argument is now tired and disproven by the preponderance of academic studies and leading industry analysts, as well as rejected by some of the world’s largest asset managers. The DOL should be facilitating and encouraging responsible investment in retirement plans if it is truly interested in improving retirees’ economic outcomes.

The proposed rule should be opposed not just by those interested in responsible investment, but by the investment industry generally.

[1] SASB’s reporting standards are gaining increasing acceptance by companies and investors. However, the DOL could easily conclude that SASB’s standards are not “generally accepted.” Further, even under SASB’s standards, many ESG considerations with real impacts on stakeholders now and in the future simply cannot be linked to a material effect that would show up on a corporation’s current or projected financial statements. The safer course for the fiduciary facing this demonstration burden may, in many cases, be to ignore ESG factors altogether. Sustainable Accounting Standards Board, SASB Standards (November 2018). Available at:

[i] US Department of Labor, Proposed Rule: Financial Factors in Selecting Plan Investments (“US DOL Proposed Rule”), RIN 1210-AB95 (June 2020), 58-59. Available at:

[ii] Hale, Jon (Director, Sustainability Investing Research, Morningstar), Sustainable Funds U.S. Landscape Report: Record Flows and Strong Fund Performance in 2019 (February 2020), 5. Available at:

[iii] Ibid, 20-21.

[iv] The GAO Report stated: “The vast majority (88 percent) of the scenarios in studies we reviewed that were published in peer reviewed academic journals between 2012 to 2017 reported finding a neutral or positive relationship between the use of ESG information in investment management and financial returns in comparison to otherwise similar investments.” The GAO report also referenced meta-studies by other researchers surveying the relevant academic literature reaching the same conclusion. Government Accountability Office, Retirement Plan Investing: Clearer Information on Consideration of Environmental, Social, and Governance Factors Would be Helpful (May 2018), 7-8. Available at:

[v] Fink, Larry, “A Fundamental Reshaping of Finance” (2020 Letter to CEOs). Available at:

[vi] UN Principles of Responsible Investment, “Signatory Relationship Presentation Q3 2020” (June 2020). Available at:

[vii] Morgan Stanley, Institute for Sustainable Investment, Sustainable Signals: New Data from the Individual Investors (2017) (“Sustainable Signals”),

[viii] Pew Research Center, “Millennials are the Largest Generation in the U.S. Labor Force” (April 2018). Available at:

[ix] Investment Company Institute, “The US Retirement Market, First Quarter 2020” (2020). Available at:

[x] US DOL Proposed Rule, 58.

[xi] US DOL Proposed Rule, 16-17.

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