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Federal Policymakers & Regulators Embrace or Reject ESG / Sustainability Factors – a Complicated Story of To & Fro

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March 23, 3021

by Hank Boerner – Chair & Chief Strategist – G&A Institute

Federal policymaking and regulation with respect to investor risk and opportunity in the United States of America is a complicated story played out over almost a century. 

The modern era of laws passed/rules adopted to implement got underway in earnest in 1933 and 1934 following the October 1929 “Black Tuesday” stock market crash and subsequent failure of Wall Street firms and banks.

The Securities Act of 1933 and The Exchange Act of 1934 are the solid foundations of most of the investor protection laws and rules that have followed.

For example, the comprehensive package of changes and reforms that comprised the Sarbanes-Oxley Act of 2002 (assembled as “Public Companies Accounting Reform and Investor Protection Act” in the US Senate [and] “Corporate and Auditing Accountability, Responsibility, and Transparency Act” in the House of Representatives, with 11 separate “titles” in what we today call “Sarbanes-Oxley”) was in part constructed on the solid foundation of the 1934 legislation.

An important driver for SOX moving ahead in the Congress were the collapse of Enron and WorldCom and other firms – dramatically impacting many investors who clamored for change.  (Ah, such crisis events – quicken the pulse and move legislators do the their job.)

The passage of the Employee Retirement Income Security Act of 1974 (“ERISA” for shorthand) following collapse of some retirement plans and reports of negative practices at others was intended to protect plans and participants and address fiduciary duties; included was provision for greater transparency for (private industry) retirement and health plans and those who manage them.

Part of ERISA provides fiduciary responsibilities for managers / those who are in control of plan assets. The agency responsible for enforcing the rules:  The U.S. Department of Labor, a cabinet office of the Executive Branch. And subject, of course, to the political winds of the day.

It’s important to note that the critical elements of the above sweep of Federal government policymaking (enacting laws, assigning responsible arms of government, developing rules, procedures, interpretations & guidance for players involved) are protection. 

The independent Securities & Exchange Commission, as example, was established in 1934 under The Exchange Act to enforce both the ’33 and ’34 acts — essentially to protect investors.

Protection – Guidance:  All good and well.  But these important creations of political bodies are subject to the politics of the time, the era, the whims of people elected to high office and the people they in turn appoint to manage regulatory agencies.

And so, we come to today’s sustainable investing and corporate sustainability topics.

We ask:  are the operating rules, guidance, enforcement, agency management philosophies…keeping up with important changes? Like the emergence of investor preference for sustainable products, including in their retirement and health plans?

Many eyes are on the SEC these days with the Biden-Harris Administration putting forth an aggressive “climate crisis” agenda; with the Federal Reserve System adopting climate change-related policies; and a few days with the easing-off-leading-to-reversal policy of the US DOL with regard to guidance on consideration of ESG in investment decision-making by fiduciaries of plans.

The last is in focus for our Top Stories in this issue of the G&A Institute weekly newsletter.

As a brief example of the to and fro of political positioning by regulatory agencies – from Trump-era decision to Biden-era decision (reversal).

The changes moved quickly at Labor (November 2020 to March 2021).  The decisions to be made at the SEC, sought by many investors to address both ESG risk (protection) and opportunity for investors is a much more complicated story.  No doubt in weeks to come there’ll be welcome news there to share with you in the newsletter.

The sturdy foundations of the ’33, ‘34’ ’74, ’02, and 2010 and other laws and rules can be built on to address both corporate and investor ESG needs & wants in 2021.

For now – take a look at the to and fro of current ESG policies at the US Department of Labor ERISA situation.

TOP STORIES

Titles Matter to Provide Context and Direction – For Corporate Leaders and the Providers of Capital

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May 14 2020

by Hank Boerner – Chair & Chief Strategist – G&A Institute

Shorthand terms in business and finance do matter – the “titling” of  certain developments can sum up trends we should be tuning in to.  Some examples for today: Sustainable Capitalism  – Stakeholder Primacy – Sustainable Investing – Corporate Sustainability – Corporate ESG Performance Factors – Environmental Sustainability – Corporate Citizenship…and more.

These are very relevant and important terms for our times as world leaders grapple with the impacts of the coronavirus, address climate change challenges, as well as addressing conditions of inequality, have/have not issues, questions about the directions of the capital markets, ensure issuer access to long-term capital…and more.  And, as influential leaders in the private, public and social sectors consider the way forward when the coronavirus crisis begins to wind down.

For investors and corporate sector leaders, the concept of shareholder primacy was more or less unchallenged for decades after World War II with the rise of large publicly-traded corporations – General Electric! — that dominated the business sector in the USA and set the pace other companies in the capital markets.

But as one crisis followed another – the names are familiar — Keating Five S&L scandal, Drexel Burnham Lambert and junk bonds, Tyco, Enron, WorldCom, Adelphia Cable, Arthur Andersen, the Wall Street research analysts’ debacle (Merrill Lynch et al), Lehman Bros and Bear Stearns, Turing Pharmaceutics, on to Wells Fargo, Purdue Pharma and its role in the Opiod crisis – over time, increasing numbers of investors began to seriously adjust they ways that they evaluate public companies they will provide vital capital to in both equities and fixed-income markets.

Investors today in this time of great uncertainty are focused on: which equity issue to put in portfolio that will stand the test of time; whose bonds will be “safe”, especially during times of crisis; which corporate issuer’s reputation and long-term viability is not at risk; where alpha may be presented as portfolio management practices are challenged by macro-events.

This is about where the money will be “safer” overall, and provide future value and opportunity for the providers of capital – because there is great leadership in the board room and executive offices and resilience in crisis is being demonstrated.

As we think about this, the questions posed in context (virus crisis all around) are:  Why has sustainable investing gone mainstream?  What can savvy boards and C-Suite leaders do to exert leadership in corporate sustainability?  Where is sustainable capitalism headed?  How do we identify great leadership in the corporate sector in times of crisis?

Our choice of featured stories up top for you this week provide some interesting perspectives on these questions.

And, we’ve tried to illustrate the embrace of sustainability as a fundamental organizing principle today of great corporate leaders.  As well as explaining the continuing embrace of sustainable investing approaches of key providers of capital as a strategic risk management discipline — and proof of concept of acceptance of stakeholder primacy / sustainable capitalism in the 21st Century.

The other stories we’ve curated for you this issue of our newsletter help to broaden these perspectives that are offered up in these challenging times from thought leaders.

As the ancient blessing/curse goes:  May we live in interesting times.

Featured Stories – The Two Critical Halves of Sustainable Capitalism, Issuers and Providers of Capital…

Concept: A well-structured sustainability committee not only serves a critical coordinating function, but also steers sustainability right to the heart of the company and the company’s strategy. Let’s take a look at how boards at some of the world’s leading companies have tackled this…

How Can Boards Successfully Guide a Transition to Sustainable Business?
Source: Sustainable Brands – The UN’s Sustainable Development Goals are set to unlock $12 trillion in new business opportunities by 2030. Yet many companies are still stuck in the past. Over the next decade, businesses can either adapt and thrive or deny and, says the organization…

The evidence suggesting that boardrooms should prioritize sustainability is growing rapidly. On the one hand, there are increased risks associated with not prioritizing sustainability. On the other hand, the figures show the huge opportunities sustainability offers businesses. As a result, more and more, sustainability is positioned at the top of boards’ agendas.

Boards must put sustainability at the top of their agenda to thrive
Source: GreenBiz – Amidst the global COVID-19 crisis, there have also been glimmers of hope. A significant one is its impact on climate change. It’s estimated that global carbon emissions from the fossil fuel industry could fall by 2.5 billion…

During a recent CECP CEO Roundtable, current and former CEOs gathered virtually and shared insights from their perspectives on the business landscape. In these informative discussions, one executive noted that leadership, more so than having the right systems in place, is and will be integral as we navigate uncharted territory:

Pivoting with Moral Leadership
Source: CECP – During a recent CECP CEO Roundtable, current and former CEOs gathered virtually and shared insights from their perspectives on the business landscape. In these informative discussions, one executive noted that leadership, more so…

Bears watching:  On 8 April 2020 the European Commission published a consultation paper on its renewed sustainable finance strategy (the “Sustainability Strategy”). The Sustainability Strategy is a policy framework forming a key part of the European Green Deal, the EU’s roadmap to making the EU’s economy sustainable, including reducing net greenhouse gas emission to zero by 2050. Despite the inevitable recent shift of focus to measures dealing with the COVID-19 crisis, this remains a top EU priority and the outcome of this consultation may significantly affect :

European Commission Consultation on the Renewed Sustainable Finance Strategy
Source: National Law Review – The Sustainability Strategy is a policy framework forming a key part of the European Green Deal, the EU’s roadmap to making the EU’s economy sustainable, including reducing net greenhouse gas emission to zero by 2050. Despite the…

Pension Fund Activists Focus on Climate Change, Diversity, Director Nomination Process — with New York City Funds in the Lead

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by Hank Boerner– Chairman, G&A Institute

Leading and influential activists in the sustainable & responsible investment community are focusing on the filing of their 2015 corporate proxy ballots with ESG issues top-of-mind. Let’s take a look at the actions of the New York City (5) pension funds (with US$160 billion in Assets Under Management).

The city comptroller, Scott M. Stringer, was elected in November 2013, along with the new high-visibility mayor (Bill DeBlasio).  Under Comptroller Stringer’s direction, the fund(s) are filing proxy proposals with 75 companies to demand a greater voice in the nomination of boards of directors.  This is the characterized as “giving shareowners a true voice in how boards are elected.” .

This campaign is designed to roll out proxy access demands across the broad public company universe in the United States.  Back in the 1800s, one of the corrupt big city political bosses was William M. “Boss” Tweed.  Said Comptroller Stringer:  “The current ]corporate] election procedures would make Boss Tweed blush. We are seeing to change the market by having more meaningful director elections through proxy access, which will make boards more responsive to shareowners.  We expect to see better long-term performance across our portfolio…”

(As local point of reference, Boss Tweed of Tammany Hall was a member of Congress and director of the Erie Railroad Company and 10th National Bank.  He was convicted of corruption and died in jail in 1878.  His name is synonymous with corruption, cronyism, political back slapping.)

The NYC comptroller serves as investment advisor to, and custodian and trustee of the 5 funds, which are for city employee beneficiaries — teachers, police, fire department, board of education, city employees.

“Proxy access” is the ability for owners to nominate directors in addition to — or in opposition to — the company’s slate of directors (in the proxy statement).  Comptroller Stringer wants to give shareholders with (1) 3% of shares and (2) holding the shares for 3 years the “threshold” of being able to nominate candidates for board service, up to (3) 25% of the total board membership.  Those companies not agreeing to the proposal received the NYC fund ballot initiative.

And big corporate names are involved; the resolutions are being filed at:

  • 33 carbon intensive coal, oil & gas, and utility companies (such as Duke Energy, ExxonMobil, Chevron, Apache, AEP (power), Southwestern Energy, ConocoPhilipps, Peabody Energy);
  • 24 companies with few / or no women on the board, and “little or no” racial or ethnic diversity – including eBay, Priceline, Level 3 Communications, Urban Outfitters, Alexion Pharma;
  • 25 companies that received “significant” opposition to 2014 shareholder votes (advisory, not binding) on their executive compensation plans.

In focus: :”Zombie directors”  – of 41 corporate directors receiving less than a majority vote in 2013, 40 remain on their boards.  As Comptroller Stringer described them, “unelected, but still serving…

“This is all part of what the pension fund leaders call their “Boardroom Accountability Project,” designed to call attention to as boards of directors and their perceived failure to address critical issues — climate risk, excessive compensation and lack of diversity in the board room.

Note that under “”plurality” voting in un-contested elections, a director who receives just one vote (his or hers counts if shares are owned) is re-elected…even if every other vote is cast against him.  The project seeks to have companies amend their bylaws to change that situation.

New York State Comptroller Tom DiNapoli was re-elected by an overwhelming statewide majority in November; he enthusiastically endorsed the city funds’ project (he is the sole trustee of the US$180 billion New York State Common Fund). He described the Board Accountability Project as a wake-up call to boards of directors to change the way business in the board room is done.

Also in support:  Anne Stausboll, CEO for California Public Employees Retirement System (CalPERS) — the nation’s largest public employee pension fund with US$ 300 billion in AUM.

Her colleague, Anne Sheehan, corporate governance director at the California State Teachers Retirement System (CalSTRS) termed the board accountability project “long overdue for our country,” voicing her support.  The fund has US$186 billion AUM.

This is not just a “New York City” liberal-leaning thing — voicing support for the project were other public sector fiduciaries:

  • William R. Atwood, executive director of the Illinois State Board of Investment. (US$5 billion AUM)
  • Francis X. Bielli, executive director of the Philadelphia Board of Pensions & Retirement.   (US$4.5 billion AUM)
  • Travis Williams, chairman of the Firefighters Pension System of Kansas City, Missouri.  (US$460 million AUM)
  • Alex Fernandez, chairman of the Miami (Florida) Firefighters Relief and Pension Fund.( US$1.5 billion AUM)

Comptroller Scott Singer explained that the U.S. Securities & Exchange Commission (SEC) first proposed “universal proxy access” (for all shareholders) back in 2003 as a “way to end the Imperial CEO,” as Enron, WorldCom and other large-caps imploded and many went out of business.  In 2010, the SEC approved a universal policy access rule in response to the financial crisis.” In a federal district court case, the rule was set aside; the SEC still allows “private ordering,” the ability for shareowners such as pension funds to file resolutions to be placed on the annual voting ballot.

And so the battle lines are being drawn for 2015 corporate engagements.  Many of the public companies named by New York City funds are seen as leaders in sustainability, responsibility and accountability.  The proxy resolutions would seem to state otherwise.

It will be interesting to see how the Board Accountability Project progresses, and how corporate boards and C-suites see the demands presented for greater “Corporate Democracy.”

CalPERS – Beyond the Headlines About Hedge Fund Exit – Guide for the California System Are Its “Investment Beliefs”

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by Hank Boerner – Chairman & Chief Strategist – Governance & Accountability Institute

This week’s capital markets headlines focus on the planned divestment of hedge funds by the USA’s largest public employee retirement system (CalPERS).  The US$300 billion California Public Employees Retirement System announced on September 15th that over the coming months the $4 billion invested through its hedge fund program — CalPERS “Absolute Return Strategies” — would be redirected to other investments.  (CalPERS will exit 24 hedge funds and 6 fund-of-funds.)

No doubt the Street anxiously read the Pension & Investments headline:  “CalPERS Dumping Head Funds.”  Reported the P&I editors:  Theodore Eliopoulos, interim chief investment officer said:  “Hedge funds are certainly a viable strategy for some, but at the end of the day, when judged against their complexity, cost and lack of ability to scale at CalPERS size, the ARS program doesn’t merit a continued role…”

The news-behind-the news and a very important context for the story goes back to the 2008 financial crisis.  Everyone’s portfolio took a massive hit as the nation’s bankers and investment houses drove the big yellow CMO bus over the cliff.  The CalPERS managers (with 1.8 public employee members’ short- and longer-term retirement benefits and 1.3 million health plan members in mind) explored ways to be less susceptible to future shocks.  In September 2013, the board adopted the “CalPERS Investment Beliefs,” which today guide the investment office.

The Beliefs provide very important context for decision-making, reflect CalPERS values, and acknowledge the awesome responsibility to sustain the ability to pay those millions of beneficiaries when the time comes. For generations, as CalPERs says.

So what are the CalPERs Investment Beliefs?  There are 10; here are highlights:

  • Liabilities must influence the CalPERS asset structure.
  • A long-time investment horizon is a responsibility and an advantage.
  • Investment decisions may reflect wider stakeholder views, provided they are consistent with CalPERS’ fiduciary duty to members and beneficiaries.
  • Long-term value creation requires effective management of three forms of capital: financial, physical, human.
  • CalPERS must articulate its investment goals and performance measures and ensure clear accountability for their execution.
  • Strategic asset allocation is the dominant determinant of portfolio risk and return.
  • CalPERS will take risk only where we have a strong belief we will be rewarded for it.
  • Costs matter and need to be effectively managed.
  • Risk to CalPERS is multi-faceted and not fully captured through measures such as volatility or tracking error.
  • Strong processes and teamwork and deep resources are needed to achieve CalPERS goals and objectives.

In Investment Belief #2 (about the long-time horizon), sustainable & responsible investment leaders were encouraged to see the four subsets:

  • Consider the impacts of actions on future generations of members and taxpayers.
  • Encourage investee companies and external managers to consider the long-term impact of their actions.
  • Favor investment strategies that create long-term, sustainable value and recognize the critical importance of a strong and durable economy in the attainment of funding objecdtives.
  • Advocate for public policies that promote fair, orderly and  effectively regulated capital markets.

There are great lessons learned coming out of the 2007-2008-2009 dark days of the capital markets crisis – in the USA and worldwide.

Effective corporate governance has long had a champion in CalPERS; over the years the system’s (former) annual Target List led the companies selected for attention usually improving their governance policies and practices.  More recently CalPERS has adopted “ESG” approaches (governance being the “G”), and Investment Belief #5 reflects the CalPERS views:

Long-term value creation requires effective management of three forms of capital: financial, physical and human.  Good governance [by companies in portfolio] is key to the overall ESG performance.

And so with this week’s headline about hedge fund investments by CalPERS, which is a tiny part of the system’s vast portfolio, it is I think important for analysts, asset manages (and other asset owners) to better understand the overall policies that guide the nation’s largest state retirement system’s investment strategies.  The CalPERS Investment Beliefs make a very strong case for sustainable investment, and underscore the duty of the fiduciary to look way beyond the immediate corporate financials alone.  (Remember, when Enron collapsed it was a darling of Wall Street and #7 on Fortune’s list of the Fortunate 500. Numbers alone no longer tell the whole story of the enterprise.  ESG performance data and narrative really do matter!)

You can read the complete Investment Belief text and learn more about CalPERS Asset Liability Management Process at: www.calpers.ca.gov/alm

Addition to yesterday’s commentary, above:  On September 17th, CalPERS issued a news release that clarified for everyone their investment policies and put the hedge fund story in perspective.  You can read about “CalPERS Outlines Plan for Financial Markets Principles – Guided by Beliefs, System Will Focus on Risk, Governance and Transparency” — details at:  http://www.calpers.ca.gov/index.jsp?bc=/about/newsroom/news/plan-financial-markets.xml

The DJSI – Analytical Game Changer in 1999 – Sustainable Investing Pacesetter in 2014

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by Hank Boerner – Chairman – Chief Strategist, G&A Institute

updated with information provided to me by RobecoSAM for clarification on 17 September 2014.

It was 15 years ago (1999) that an important — and game-changing  “sustainability investing” resource came in a big way to the global capital markets; that year, S&P Dow Jones Indices and Robeco SAM teamed to create the Dow Jones Sustainability Indices. This is described by the managers as “…the first global index to track the financial performance of the leading sustainability-driven companies worldwide,” based on analysis of financially material economic, environmental and social (societal) factors. Breakthrough, game-changing stuff, no?

Note “financially material” – not “intangible” or “non-financial,” as some capital market holdouts initially (and continue to) described the sustainable investing approach.  There were but handfuls of “sustainability-driven” companies in world capital markets for selection for the World benchmark.  1999 — -that year the Global Reporting Initiative (GRI) was assembling its first comprehensive framework for corporate reporting (G#) byond the numbers alone.  Interfaith Center for Corporate Responsibility (ICCR) was a steadily maturing organization mounting proxy campaigns to challenge the risky behavior of major companies that were polluting the Earth.  The Investor Responsibility Research Center (IRRC) was the go-to source for information on corporate behaviors, particularly related to corporate governance issues.  (And CG issues were rapidly expanding – the governance misbehaviors of unsustainable companies such as of Enron, WorldCom, et al, were not yet as evident as when they collapsed three years later.). Robert Monks and Nell Minow were active in Hermes Lens Asset Management, continuing to target poorly managed companies and encouraging laggard CEOs to move on. (Monks’s book, “The Emperor’s Nightingale,” was just out that year.)

Over the next 15 years, the managers of DJSI benchmarks steadily expanded their analysis and company-picking; the complex now offers choices beyond “World” —  of Dow Jones Sustainability Asia Pacific; Australia; Emerging Markets; Europe; Korea; and North America.

A handful of “sustainability-driven” companies have been aboard “World” for all of the 15 years; this is the honors list for some investors:  Baxter International (USA); Bayer AG; BMW; BT Group PLC; Credit Suisse Group; Deutsche Bank AG; Diageo PLC; Intel (USA); Novo Nordisk; RWE AG; SAP AG; Siemens AG: Storebrand; Unilever; United Health Group (USA).  Updated:  And Sainsbury’s PLC.

Though the DJSI indices have been availble to investors for a decade-and-a-half, it is only in the past few years that we hear more and more from corporate managers that senior executives are paying much closer attention.  “The CEO wants to be in the DJSI,” we frequently hear now.

Each year about this time the DJSI managers select new issues for inclusion and drop some existing component companies.  Selected to be in the World:  Amgen; Commonwealth Bank of Australia; GlaxoSmithKline PLC.  Out of the DJSI World:  Bank of America Corp; General Electric Co; Schlumberger Ltd.

DJSI managers follow a “best-in-lcass” approach, looking closely at companies in all industries that outperform their peers in a growing number of sustainability metrics.  There are about 3,000 companies invited to respond to RobecoSAM’s “Corporate Sustainability Assessment” — effective response can require a considerable commitment of time and resources by participating companies to be considered.  Especially if the enterprise is not yet “sustainability-driven.”  We’ve helped companies to better understand and respond to the DJSI queries; it’s a great exercise for corporate managers to better understand what DJSI managers consider to be “financially material.”  And to help make the case to their senior executives (especially those wanting to be in the DJSI).

updated information:  RobecoSAM invites about 2,500 companies in the S&P Global Broad Market Index to participate in the assessment process; these are enterprises in 59 industries as categorized by RobecoSAM, located in 47 countries.

The new G$ framework from GRI, which many companies in the USA, EU and other markets use for their corporate disclosure and reporting, stresses the importance of materiality — it’s at the heart of the enhanced guidelines.  The head of indices for RobecoSAM (Switzerland), Guido Giese, observes:  “Since 1999, we’ve heled investors realize the financial materiality of sustainability and companies continue to tell us that the DJSI provides an excellent tool to measure the effectiveness of their sustainability strategies.”

Sustainability strategies — “strategy” comes down to us through the ages from the Ancient Greek; “stratagem”…the work of generals…the work of the leader…generalship…”  Where top leadership (and board) is involved, the difference (among investment and industry peers) is often quite clear.

At the S&P Dow Jones  Index Committee in the USA, David Blitzer, managing director and chair of the committee, said about the 15 years of indices work: “Both the importance and the understanding of sustainability has grown dramatically over the past decade-and-a-half…the DJSI have been established as the leading benchmark in the field…:”

The best-in-class among the “sustainability-driven” companies that we see in our close monitoring as GRI’s exclusive Data Partner in the USA, UK and Ireland, the company’s senior leadership is involved, committed and actively guiding the company’s sustainability journey.  And that may be among the top contributions to sustainable investing of DJSI managers over these 15 years.

Congratulations and Happy Anniversary to RobecoSAM and S&P Dow Jones Indices (a unit of McGraw Hill Financial).  Well done!  You continue to set the pace for investors and corporates in sustainable investing.