Climate-conscious investment has increasingly been a focus for new UK legislation and regulation regarding pension schemes (see our earlier blog posts about this topic here, here and here). In this post, we have set out the most recent developments in this area.
Climate-related governance and disclosure requirements under the UK's Pension Schemes Act 2021
The Pension Schemes Act 2021 is a long-awaited and significant development in the legal context relating to climate-related risks for pension scheme investments. As the Act only provided the UK Government with broad powers to impose new legal requirements, it was necessary to await the consultation process carried out earlier this year by the Department for Work and Pensions (DWP), and the recent publication of finalised regulations and DWP guidance, to understand the new regulatory approach to these issues.
The new climate change-related obligations on scheme trustees are set out in the Occupational Pension Schemes (Climate Change Governance and Reporting) Regulations 2021 ('the Regulations') which come into force on 1 October 2021. The Act also provides that trustees must have regard to the guidance of the Secretary of State when complying with the requirements, and the finalised statutory guidance ('the DWP guidance') has been issued.
The DWP’s response to its earlier consultation on the draft Regulations explains its approach and sheds light on the adjustments it has made to its earlier proposals in light of industry feedback. Overall, the adjustments are relatively minor, being aimed at clarifying some areas of uncertainty and addressing some practical concerns, and the broad thrust of the DWP’s policy proposals remains unchanged.
The Regulations are intended to secure effective scheme governance with respect to the impact of climate change and include new obligations on trustees to:
- identify (on an on-going basis) climate-related risks and opportunities and their impact on the scheme’s investment or funding strategy;
- select metrics for determining the greenhouse gas emissions attributable to the scheme investments and which informs the assessment of climate-related risks;
- design strategies to mitigate exposure to risks and establish measurable targets in managing these risks; and
- undertake scenario analyses which consider the impact of global rises in temperature, including a rise within the range of 1.5 and 2 degrees Celsius above pre-industrial levels, on the resilience of the scheme’s investment or funding strategy, and the scheme’s assets and liabilities.
A key feature of the Regulations is the focus on transparency towards members and accountability. They require trustees to disclose information about governance, strategy and risk management in a report that must be freely available and published online. Penalties will only apply where the Pensions Regulator (TPR) is of the opinion that a person has failed to publish a report free of charge on a publicly available website.
The Regulations set out an extensive range of governance and disclosure requirements. Some of the changes can be understood as supplementing trustees’ current duties under trust law in respect of scheme investments. For example, those duties could already be viewed as entailing a requirement to have a proper understanding of risks (including climate-related risks) that could impact on a scheme’s investment strategy and funding objectives.
The Regulations reflect some understanding on the part of the DWP of the practical difficulties that trustees may face. For example, the Regulations provide that trustees and managers will only need to satisfy themselves that they have taken 'adequate' steps to identify, assess and manage any climate-related risks and opportunities relevant to their governance activities. Similarly, the obligations on trustees to undertake scenario analyses and use their selected metrics to calculate attributable emissions are expressed as obligations to do so 'as far as they are able'.
According to the DWP guidance, this means that trustees are required to take 'all such steps as are reasonable and proportionate', taking into account time and costs incurred in complying with the new requirements. This threshold was introduced in order to address concerns that trustees may not be able to obtain adequate data when carrying out scenario analyses or calculating metrics.
Consultation on TPR guidance for trustees
Respondents to the DWP’s consultation also expressed an interest in hearing directly from TPR about their regulatory approach and expectations. Accordingly, on 5 July 2021, TPR published a consultation on new guidance to help trustees who are required to comply with the duties on governance and reporting of climate-related risks and opportunities, seeking views on their approach to these new requirements. The consultation will close on 31 August 2021.
More recently, TPR’s Executive Director of Regulatory Policy, Analysis and Advice, David Fairs, published a blog explaining how schemes can and must make a difference in the transition to a net zero economy. In it, Fairs states '[t]he way a scheme’s investments are stewarded, or looked after on behalf of savers, does have the potential to be powerful', arguing that it is the responsibility of trustees to set the policy on how climate change is taken into account in pension scheme investment decisions.
FCA and climate-related disclosures
In addition, on 22 June 2021, the Financial Conduct Authority (FCA) published a consultation paper on further climate-related disclosure rules. The FCA proposals would require standard listed companies to comply with similar disclosure rules already applicable to UK premium listed companies. This extends the scope of these rules to a wider range of listed issuers and would require in-scope companies to include a statement in their annual financial report explaining whether they have made disclosures that align with the recommendations of the Task Force on Climate-related Financial Disclosure (TCFD).
These developments can be viewed as one more step in the roadmap published by the Government in November 2020 (see our earlier blog post), which proposes mandatory TCFD-aligned disclosure obligations across the UK economy over the next five years.
The proposals are some of the first significant policy changes made by the FCA in this area since the end of the EU withdrawal period. The rules are intended to ensure that adequate information on climate change risks and opportunities are available along the investment chain, from companies to consumers, and to encourage sustainable investment.
In addition, the FCA is seeking feedback on consultations relating to other environmental, social and governance (ESG) issues, including on sustainable debt markets and the role of ESG data and rating providers. The FCA is inviting responses to both consultations by 10 September 2021 and will confirm its final policy before the end of the year. It will separately consider stakeholder feedback on ESG topics and publish a feedback statement in early 2022.
These consultations mark another milestone in governmental and regulatory awareness of climate change issues in relation to pensions, and demonstrate a desire to implement these changes in tandem with individual trustees and managers.
There have been similar developments in other jurisdictions, including the EU’s Sustainable Finance Disclosure Regulation (SFDR) that took effect in March. The SFDR requires financial market participants, including pension schemes, to disclose information regarding their approaches to the integration of sustainability risks and the consideration of adverse sustainability impacts. The SFDR will be supplemented by regulatory technical standards which will set out these disclosure obligations in greater detail and will apply from 1 July 2022.
The recent report of the United Nations’ Intergovernmental Panel on Climate Change set out a stark conclusion that climate change is widespread, rapid and intensifying. It will be interesting to see how the implementation of these new initiatives, and their interaction with trustees’ fundamental duties to invest scheme assets, will shape the landscape for sustainable pensions investments.