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UK DWP Guidance Encourages Alignment Between Pensions and Managers

Stewardship update “focusing trustee minds” and providing more transparency, says ShareAction.

The UK Department for Work and Pensions’ (DWP) new guidance on portfolio temperature disclosures will ensure alignment in climate-related reporting between asset managers and pension schemes, according to Charlotte O’Leary, CEO of Pensions for Purpose.

The DWP’s consultation proposes amendments to existing rules for UK pension trustees under the Occupational Pension Schemes (Climate Change Governance and Reporting) Regulations 2021, requiring schemes to report on their current portfolio alignment with the Paris Agreement’s 1.5°C above pre-industrial levels target.

These changes aim to ensure increased visibility of pension schemes’ progress towards net zero greenhouse gas (GHG) emissions and reveal the extent to which over £1.3 trillion of investments made by UK pensions are exposed to future climate risks, according to the DWP.

“We have seen pension funds and asset managers setting different individual goals that could lead to confusion,” O’Leary told ESG Investor. “[This consultation by DWP] is bringing together the output of the Financial Conduct Authority’s (FCA) guidelines for asset managers on portfolio alignment metrics with the DWP’s guidance to pension schemes, which should make pension funds’ targets more achievable.”

In the summer, the FCA outlined plans to introduce climate-related financial disclosure rules and guidance for asset managers, insurers and pension providers, which included the implementation of temperature metrics – such as Implied Temperature Rise (ITR) – for products or managed portfolios.

Alongside ITR, the DWP consultation noted that pension schemes can use “binary target measurements” or “benchmark divergence models” to measure a portfolio’s temperature alignment.

“We are keen to provide trustees with complete methodological flexibility in our proposed measures, given that the market has not yet coalesced around a single approach, and methodological standardisation is yet to emerge,” the consultation noted.

These new requirements could place “an additional governance burden on smaller pension funds”, warned Karen Shackleton, Chair and Founder of Pensions for Purpose and an independent investment adviser.

However, the DWP said all UK pension schemes will be asked to measure and disclose their degree of temperature alignment from October 2022 only “as far as they are able”, which should allow smaller pension schemes some flexibility.

As UK pension schemes and asset managers all fall under the Task Force on Climate-related Financial Disclosures (TCFD) mandate imposed by the government last year, use of the same range of temperature metrics will also result in more comparable and decision-useful TCFD reports, the DWP added.

The UK’s largest pension schemes have been subject to the TCFD mandate since the beginning of this month, with asset managers expected to produce their first reports from 2023.

The DWP consultation follows on the heels of a recent update to its guidance by the TCFD, which recommends that financial institutions describe the Paris alignment of their activities.

Disclosing stewardship priorities

The DWP has also published draft guidance for disclosing stewardship priorities within a pension scheme’s Statement of Investment Principles (SIP) and Implementation Statement (IS). Currently, ESG-related ambitions are not sufficiently reflected in pension scheme SIPs and ISs, the DWP said.

“SIPs and ISs can be incredibly helpful in focusing trustee minds around ESG issues, as well as giving savers and other stakeholders an account of what has actually been done to implement investment and stewardship priorities,” said Fergus Moffatt, Head of UK Policy at NGO ShareAction.

In the new guidance, the DWP asks trustees to outline their stewardship priorities within the SIP so that pension members can understand their scheme’s approach to tackling ESG-related issues such as climate change.

The consultation further clarifies that trustees may conduct investor stewardship on issues that are financially material to savers as well as those which are not.

“This will enable trustees to think not only about the risk to their fund, but also the impact the fund has on the environment and society and ensure they are genuinely acting in the best interests of their members,” said Moffatt.

The ‘Legal Framework for Impact’ report, backed by the Principles for Responsible Investment (PRI) and published by law firm Freshfields BruckHaus Deringer, previously highlighted that institutional investors can legally pursue sustainability goals alongside their other fiduciary duties “to a significant extent”.

Increased visibility of a pension scheme’s stewardship priorities within the SIP will also “help trustees hold their asset managers to account” if investment decisions and engagement efforts do not reflect their stewardship priorities, said Moffatt.

In future, pension schemes will need to publish their most significant votes in their ISs. Moffatt told ESG Investor that this added level of transparency will “help trustees to explain how they have sought to meet their stewardship priorities”.

In particular, Moffatt said he is supportive of the DWP asking trustees to take ownership of these reports “and not delegate responsibility to asset managers and advisers”.

“Together with existing climate governance and disclosure requirements, [these changes] will help inform trustees’ investment decisions, stewardship and voting,” wrote Thérèse Coffey, Secretary of State for Work and Pensions, and Guy Opperman, UK Pensions Minister, in the consultation’s foreword.

The consultation closes on 6 January, 2022, and, subject to feedback, will be adopted 1 October, 2022.

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