More than 80% of UK pension holders want their pension holdings to be invested in ways that benefit the environment and society that they live in, that they will retire into and that their children will build their lives in. Government wants to drive the £2.5 trillion of UK pension capital towards supporting domestic economic growth. Yet the laws and regulations around how pensions funds can make decisions are holding schemes back from directing capital towards investments like clean energy infrastructure, housing and small/medium-sized business financing – areas that can deliver competitive returns for people’s financial futures, while strengthening the UK economy and improving people’s living standards.
So why exactly do pension funds feel restricted in investing in areas that contribute to the economic growth, regional development and meaningful work that both the public and the government want – and most importantly, what can be done about it?
Can failing to support the economy, environment and society that people live and work in be considered acting in their best interests?
At the heart of the issue is how current laws and regulations interpret the concept of fiduciary duty. This underlying responsibility that those controlling a pension fund must only manage the pension fund in a way that benefits the pension scheme members, not themselves, is crucial to enabling working people to reap the benefits of their savings being pooled and collectively managed by someone else, as in a modern workplace pensions scheme.
How this core principle translates into exactly what the trustees overseeing pension funds can and cannot do in practice, however, is spelled out in specific pieces of law and regulation. And herein lies the problem – the current law, driven primarily by outdated case law, is not sufficiently clear about what trustees can and cannot consider, and is open to misinterpretation.
The way current law treats financial factors is a key part of this misalignment. Based on the vital need to ensure those controlling other people’s money are not using it to line their own pockets, pension law and regulation rightly requires trustees to act in the financial interests of beneficiaries. But by not also laying out all the other ways in which pensions scheme members’ interests should be protected, trustees can sometimes be left feeling legally bound to rule out considering anything beyond the estimated financial performance of an investment – regardless of how a beneficiaries’ broader economic, environmental and social interests might be impacted.
For the capital in our pensions to be acting in our best interests, it must – alongside delivering a strong financial return – be supporting local, regional and overall national economic development, investing in the innovative technologies of the future, creating quality jobs, making work pay, building thriving communities and nurturing the natural environment we all live in.
We are therefore urging the government to improve the way that current laws and regulations describe pension fund trustees’ responsibilities, to ensure pension fund members’ savings are truly supporting what pension savers want and not leading those controlling people’s pensions to reduce beneficiaries’ interests to only numbers.
What exactly needs to change?
Given the conceptual importance of fiduciary duty on the one hand and the lack of clarify in current law, the changes needed to remove these barriers are remarkably simple.
A huge amount of work has already been done in this area, including by the Law Commission, the Financial Markets Law Committee last year and multiple legal opinions commissioned by individual pension schemes, such as Natwest Cushon. Based on these, we have worked with legal experts to develop the specific wording changes needed to ensure that current l law better reflects pension fund members’ real needs.
These clarifications would provide pension fund trustees with the confidence to know they can – and should – consider how to drive investment performance in the context of: factors that cannot be fully managed through diversification (such as climate change or broader economic conditions), how a pension’s value is affected by the economy and society in which people will retire and how pension investments directly affect the UK infrastructure and public services that people rely on.
Our proposed changes are backed by a wide body of pension trustees, consultants, lawyers, actuaries and civil society bodies working to unlock the potential of pension capital. They:
- provide a simple, consistent solution;
- complement and enhance important existing pension reform initiatives such as the recent Mansion House Compact II;
- enable pension schemes to support UK economic growth, in a more effective way than by trying to narrowly define and mandate investment into UK assets.
The opportunity is now
Legal frameworks need to be stable to be relied upon. Major pieces cannot be continually tweaked, so changes must be consolidated into key moments. The upcoming Pension Schemes Bill is such a moment – a unique opportunity to provide legal clarity on what fiduciary duty really looks like, that if missed may not come around again for a very long time.
The Pension Schemes Bill must provide trustees with legal clarity through two key changes.
- Underline the importance of economy-wide effects. Clarify that pension trustees must consider risks and opportunities that cannot be fully managed through diversification.
- Permit consideration of broader investment impacts. Provide explicit legal permission for trustees to consider how investments affect the UK economy, people’s standards of living and future retirement conditions.
Current legislation and regulation don’t bar trustees from doing any of these things, but without explicit legal permission to do them, the reality is that many trustees do not believe they are able to consider how investments could benefit the quality of public services, housing affordability, energy costs and other factors that directly impact people’s standard of living.