How the DOL's new ESG Rule would affect retirement advisors

How the DOL’s New ESG Rule Would Affect Retirement Advisors

  1. How ESG moves into the DOL’s vision
  2. Will the DOL’s ESG Rule scare fiduciaries?
  3. Generally bad for 401k accounts?
  4. Key Article Ideas

The Department of Labor is considering a regulation that would limit how environmental, social, and governance (ESG) investing can appear in retirement plans. 


How ESG moves into the DOL’s vision


Proponents of ESG investing see the DOL’s ESG regulation as unnecessary scrutiny that could shudder ESG investing popularity. They argue that the DOL is assuming that ESG factors do not affect risk-adjusted-performance. Their argument is the opposite of what ESG investing intends to do – benefit from the material benefits of ESG factors and lead to higher investment performance. 


It has been a long and challenging road towards making the case that fiduciary duty should require some level of ESG investing in managing long-term market risks. The DOL’s ESG rule would restrict fiduciaries from offering ESG investment options to their retirement participants. Under the rule, fiduciaries could not offer ESG investment options that:

  • Increase fees;
  • decrease returns; or
  • increase risks for “nonfinancial goals.”


Plan advisors and sponsors would “still be able to consider ESG factors as tiebreakers among equivalent alternative investments.” Still, the rule restrictions do not seem to make sense for ESG investors. Ethically-motivated investors are often more than willing to bear slightly higher investment fees to meet their moral obligations.


Will the DOL’s ESG Rule scare fiduciaries?


The outpouring of obstinate advisors indicates that the DOL’s ESG scrutiny would significantly impact the financial services industry, especially for retirement advisors. According to Morningstar, an overwhelming majority of comments on the DOL’s proposed rule (95%) are opposed to the ESG focus. Most of the 8,700 comments were from individuals, but investment firms also opposed the rule. Time will tell whether these dissident comments will affect the rule, and an administration change would undoubtedly put the breaks on the ESG scrutiny. 


The DOL’s simple increased focus on ESG investments may make them unattractive, already, as the most risk-averse advisors will steer clear of any ethical investments that may put attract attention from regulators. As Yon and I learned on our ESG podcast, advisors often struggle to educate investors and retirement plan participants on how the material differences of ESG investing result in lower risk and higher returns than traditional financing. 


Perhaps generally bad for 401k accounts?


The fiduciary responsibility is especially crucial for 40k advisors. Suppose advisors are not willing to take the regulatory risk of providing 401k participants with a sustainable investment option (like an ESG alternative). In that case, ethical investor plan participants may seek to move their retirement savings to an IRA and independent financial advisor.  


This DOL rule change comes as ESG investing continues to grow despite the impact of COVID-19 on markets. American sustainable funds saw record inflows during the first quarter, and multiple sustainable-investing and ESG-labeled funds are “navigating the downturn better than their conventional counterparts.” 


ESG Fund leaders succeed because of lower volatility and higher profitability of their business models. The investment strategy’s merits may not change with the DOL’s ESG Rule, but retirement advisors may see their hands tied when helping ethical investor clients. 


RiXtrema’s blog will continue to update you on regulatory, risk, and investing news to keep you informed for your clients and save you time sifting through dense regulatory information. Join our Newsletter below to receive bi-monthly updates. 


Key Article Ideas:


  • The Pandemic is creating a new interest in ESG investing as some funds outperform traditional alternatives. 
  • The DOL’s focus on ESG investing may make it difficult for fiduciaries to propose ESG options, especially if the investment: 
    • Increases fees;
    • decreases returns; or
    • increases risks for “nonfinancial goals.”
  • A substantial negative response from advisors may 
  • 401k plans may see reduced participation as risk-averse, and ethically, investors switch to an IRA. 

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