Growing numbers of employers are choosing to include ESG (environmental, social, and governance)  investments in their 401(k) plan lineups. Increasingly, American workers, especially millennials and Generation Z, are opting to invest their retirement dollars into ESG funds due to their values-driven investing strategies. In 2020, millennial investors contributed $51.1 billion to ESG funds. 

ESG funds are often referred to as “socially responsible,” “sustainable,” or “impact” investments. Today, workers across all generations are seeking to invest in funds that focus on factors such as climate change, social justice, gender equality, and similar issues. 

By offering ESG funds in their retirement plans, employers have an opportunity to attract, retain, and reward investors who want to make a positive impact. Recognizing a chance to support our members in enhancing their retirement plan benefits, WTIA recently added several ESG funds to the investment lineup in the 401(k) Tech Multiple Employer Plan (MEP). Currently, 1% of the plan’s assets are invested in these funds. 

To help employers understand the potential benefits of offering ESG funds and why employees value the opportunity to invest with their hearts, we sat down with Rob Raphael, AIF, CFPA, a senior retirement plan consultant with SCS. SCS is a Bellevue, WA-based retirement plan consulting and wealth management firm that partners with WTIA on its multiple-employer plan (MEP) offering. 

Why are ESG funds in retirement plans getting so much attention?

There is a rising interest, especially among younger retirement plan participants, to direct their investment dollars into socially conscious companies. Participants are becoming more aware and concerned about their retirement savings going to corporations and industries that may be negatively impacting our environment and society.

What makes ESG funds different from traditional mutual funds?

ESG is not an investing approach. It’s an umbrella term for material non-financial factors used in determining what a corporation should be invested in. 

ESG is data in three realms that match corporate behavior as it affects people. Specifically, there are three general areas that ESG fund managers focus on primarily for corporations to invest in:

1. Environmental, which includes how companies impact climate change, resource depletion, deforestation, waste management, pollution, etc.
2. Social, which includes human rights, child labor, working conditions, diversity and inclusion, corporate culture, etc.
3. Governance, which includes bribery and corruption, executive pay, risk management, tax strategy, board diversity and structure, etc.

While non-ESG mutual funds may not focus on these data factors as a primary consideration, there is data coming out that, for example, governance factors into the decision-making process that determines whether a mutual fund invests in a corporation. This is called “integration,” where some ESG factors are used, but they aren’t the main driver.

What is the appeal of values-based investing?

There are two ways people generally invest: with their hearts or their minds. “With their hearts” means these are investors who care where they put their 401(k) dollars to work. They are concerned about the environmental, social, and governance factors more than the financial factors in terms of long-term financial impacts.

Investors that lead with their minds are focused primarily on strong financial outcomes, even if it means that some of the companies they are investing in may be involved in non-ESG concerns, such as fossil fuels, deforestation, board diversity and structure issues, etc. 

Investment companies are making a shift; many are starting to factor or integrate certain ESG components, such as corporate governance, into their overall investment decision process.

How can ESG investing help build sustainability for future generations, particularly from a wealth-building standpoint? 

Innovation brings change. By putting a greater emphasis on holding companies more accountable—while helping them realize that putting their resources and dollars into areas of the economy, society, and environment could potentially be just as or more profitable—there is a possibility that wealth growth could follow as more investors put their money into ESG funds and drive the prices up. As with all investments, there is no guarantee of returns. 

The overall goal of ESG investors is to have a sustainable planet here where future generations can live and thrive. That is an asset you can’t put a price tag on. 

Why should employers consider including ESG funds in their investment lineup?

It provides investors a “best of both worlds” opportunity to choose either heart or mind investing, or both, when it comes to where they direct their retirement savings. 

There is research that has shown that corporations that include certain ESG factors can have positive outcomes in corporate cost of capital, operational, and market performance. For heart-led investors, this is great news because the way in which they are voting with their retirement dollars is causing corporations to rethink how they operate and their impact on people and the planet.

Should employers consider offering ESG funds to enhance their potential to recruit talent?

Yes, any time employers can offer something that may appeal to employees without increasing company costs, it is something to consider. Younger employees, in particular, are focused on the environment and are concerned with having the option to decide where they invest for retirement. 

That being said, employees aren’t clamoring for ESG funds yet, but demand is growing.

Is ESG fund management something employers can outsource? Why should they consider doing so?

Regulation around ESG funds is still in its infancy. The SEC has been working on guidelines in terms of oversight and how and when an ESG mutual fund can be selected for a corporate retirement plan. As a fiduciary, either as an owner, officer, or investment committee member, it is important to seek outside investment advice from an investment advisor who is knowledgeable in this area. Determining the objective of your organization’s investment philosophy for your corporate retirement plan is crucial. 

Offering ESG funds alongside traditional mutual funds/exchange-traded funds (ETFs) can be a great way to appease all types of investors in a retirement plan. 

From a fiduciary perspective, in the current regulatory environment, employers are generally focused on financial factors over ESG factors. The balance between heart and mind investment philosophies in corporate retirement plans is likely to tip in favor of financial (mind) outcomes over ESG (heart) outcomes. 

What can you tell us about the ESG funds in the MEP? 

The MEP offers both ESG and non-ESG funds. Both allow a participant to build a diversified portfolio. The ESG funds include a variety of asset classes, such as large-cap, mid-cap, small-cap, international, and fixed income, so a participant could diversify their retirement investments using only ESG factors if they choose to.

To learn more about the WTIA 401(k) Tech MEP and the ESG fund lineup, visit our website or email us at 401k@washingtontechnology.org.