PLANSPONSOR - April - May 2022 - 35

PLAN DESIGN | ESG
Plancorp favors the weighting
method over screening, for its clients,
Braisden says. " We think an overweighting
of companies that are doing
really well and underweighting of
companies that aren't is a better practice
in terms of diversification and keeping
costs low, vs. an exclusion method. "
How to Make It Fit
Deciding to add ESG in some form is
the first step; determining how to do
that is the second. A June 2021 report,
" Incorporating ESG in DC Plans: A
Resource for Plan Sponsors, " from the
Defined Contribution Institutional
Investment Association discusses three
approaches: integrating ESG throughout
the plan, adding it as stand-alone core
menu options or making it available via
self-directed brokerage accounts.
Full-plan ESG integration is an
all-in approach. Per the DCIIA report:
" The plan sponsor considers sustainable
investing attributes that are financially
material to the plan's investment strategy
as part of the evaluation and selection of
each investment option. " The report notes
that the integrated approach can be used
with specific asset classes and individual
securities or a plan's qualified default
investment alternative, either through an
off-the-shelf or a custom plan.
When evaluating whether or how
to use the second method, adding ESG
funds to the core menu, sponsors should
seek to answer several questions, DCIIA
says. These include: How many ESG
funds are appropriate? Do the funds
align with participants' interests? What
impact will the funds' addition have in
terms of potential duplication of already
available asset classes and participants'
asset allocations?
Using a brokerage window, from the
sponsor's perspective, shifts more of the
investment selection process to the participants.
Because the options are inside
the window, the sponsor can offer access
to a wide selection of ESG funds without
needing to expand the core menu.
Peter Di Teresa, head of manager
selection for Morningstar in Chicago, says
a brokerage window can provide a workaround
when participants want access to
ESG funds and the plan sponsor is reluctant
to incorporate them into the plan.
At the same time, " Offering a brokerage
window creates additional challenges for
the plan sponsor, which takes on responsibilities
for selecting and offering the
brokerage window, " Di Teresa says.
Plus, he adds, " Participants have to
be motivated for a brokerage window to be
useful. They do have a greater choice, but
they have to figure out how to determine
whether a fund is a good investment and
how effectively ESG considerations are
integrated into the strategy. "
Dan Tremblay, institutional portfolio
manager with Fidelity Investments in
Boston, believes the self-directed brokerage
option is " a great first step, as it allows
participants to [explore] a suite of sustainable
solutions outside the core lineup. "
This approach is easier than the other alternatives
to implement, Tremblay says, and
it reduces sponsors' regulatory concerns
while they wait for the Department of
Labor to finalize its ESG proposal from last
October's comment letter.
A Charles Schwab report found
that, at the end of last year, the average
participant balance in an SDBA was about
$353,000, up 6.4% over the previous year.
That balance was significantly higher, at
$558,470, for advised accounts than for
non-advised accounts ($304,164). " The
self-directed brokerage account is a great
tool for a 401(k) participant who has an
adviser who can give direction on using it
and make that part of the person's overarching
strategy, " says Nathan Voris,
director, investments, insights and
consultant services at Schwab Retirement
Plan Services in Richfield, Ohio.
For sponsors seeking additions to
their core menu, Tremblay points to
sustainable index funds based on major
asset classes as a next step. " These funds
often have decent track records, and they're
measured against ESG benchmarks, " he
says. " They represent large, liquid asset
classes and have low fees. "
More narrowly focused, funds that
emphasize one aspect of the ESG spectrum
are
also
gaining momentum,
Tremblay says. He notes that Fidelity's
surveys have found the greatest interest
among
participants
in environmental
climate issues and workplace pay equity.
These " thematic " funds allow participants
to align their values and investments and
encourage more engagement with the
plan, he says.
... more than
a high ESG
rating is needed
for a fund to
make the cut.
Basics Still Count
Tremblay stresses, however, that plan
sponsors can never lose sight of the fact
that there are still first-order investment
implications when thinking about new
sustainable solutions in a 401(k) plan.
" We still need to focus on the traditional
risk return objectives, the diversification,
the amount of volatility, the return
expectations. We want to provide participants
with sustainable solutions, while
making sure to focus on risk return objectives.
One doesn't need 10 solutions, but
enough where it's not leaning in[to] one
particular area. "
Di Teresa agrees that plan sponsors
should consider the full picture-that
more than a high ESG rating is needed
for a fund to make the cut: Investment
quality and a fund's long-term prospects
remain essential. " You don't get a pass
just for being an ESG fund, " he says.
" We're paying attention and screening
and evaluating based on investment
quality: Do we think this is the kind
of fund that's suitable for retirement
investing? " -Ed McCarthy
PLANSPONSOR.COM April - May 2022 35
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