A rule quietly proposed by the Biden administration would allow companies to consider factors such as climate change, diversity issues and even political donations when selecting employees’ 401(k) plans, potentially forcing workers to funnel some of their pay into woke causes.
The proposal explicitly directs retirement plan administrators and asset managers to consider environmental, social and corporate governance (ESG) factors when selecting investments.
That would require retirement plan sponsors to give as much weight to a fund’s support of liberal causes, such as donating to Black Lives Matter or building wind turbines, as they do to financial returns.
The Labor Department rule makes clear that “climate change and other ESG factors are often material” and should be considered “in the assessment of risks and returns.”
It also rescinds a Trump-era rule that requires administrators and asset managers to offer investment options solely in the financial interests of participants.
Under the proposed rule, announced late last month, administrators could enroll workers in ESG funds as a default if the employee does not select an investment option. Workers could unknowingly be supporting causes that don’t align with their political views.
If approved, the rule could affect the roughly 150 million workers and $10 trillion in assets covered under the Employee Retirement Income Security Act of 1974, or ERISA.
Critics say the rule would harm Americans’ retirement savings by allowing asset managers to sacrifice financial returns to promote liberal policy objectives.
“This is the latest example of how the political left works,” said Sen. Marco Rubio, Florida Republican. “They want to remake the entire country to comply with the latest woke agenda. And with this rule, the political left’s allies on Wall Street and corporate America will be free to do it with no recourse for the workers and retirees harmed by it.”
Mr. Rubio responded with a bill that would empower shareholders to sue corporations and executives if their business strategies deviate from their duty to maximize investors’ returns.
Democrats said the proposed rule gives workers the freedom to support social causes and that financially beneficial investments can also promote racial justice and combat climate change.
“Financial security is about planning for the future, so it’s just common sense that ERISA fiduciaries be allowed to consider the environmental, social and governance factors that are shaping the future. The Biden administration’s step to acknowledge this reality is a win for workers, retirees, investors, businesses, communities, the environment — everyone,” Sens. Patty Murray of Washington and Tina Smith of Minnesota said in a joint statement. “This new rule will help build a future for families that is more just, diverse, sustainable and financially secure.”
Ms. Murray, chairwoman of the Senate Health, Education, Labor, and Pension Committee, was one of the most vocal opponents of the Trump-era rule that strictly limited investment decisions to financial concerns.
Socially conscious investing has been a political yo-yo for years. Presidents Clinton and Obama tried to nudge the Labor Department toward ESG considerations, and Presidents George W. Bush and Trump sought to restrict it.
The rule in the works under President Biden would dramatically increase the inclusion of ESG options in investment plans because it gives plan sponsors more freedom to support those causes.
ESG investment has surged in recent years. The total assets under management by ESG funds reached $40 trillion last year, up from $22.9 trillion in 2016, according to data from Opimas LLC, a management consultancy business that advises financial institutions.
Globally, ESG assets are expected to exceed $53 trillion by 2025. That would account for more than one-third of the $140.5 trillion projected assets under management, according to research by Bloomberg Intelligence.
Asset managers charge higher fees for ESG funds, according to Morningstar Inc, a financial services company. Morningstar’s research found that the asset-weighted average expense ratio for “sustainable” funds in 2020 was 0.61%, compared with 0.41% for traditional funds. That difference could reduce an individual’s retirement savings by tens of thousands of dollars over a few decades.
Morningstar referred to the increase as “a greenium,” a pun on the high fees and funds’ climate change initiatives.
No hard data shows that ESG funds outperform traditional investment options, though supporters and detractors have sought to make a case for their sides.
A study by financial services giant Morgan Stanley found that ESG funds outperformed their peers by 4.3% last year. The company attributed the higher performance to a broader acceptance of ESG funds among asset managers.
Researchers at Edhec Business School in France concluded this summer that the ESG market has hit maturity and will soon peter out. They said companies will incur greater costs by trying to improve their environmental and social scores, which will lead to lower profits over the long haul.
Bill Flaig, the creator of an exchange-traded fund that offers investment products catering to conservatives, said ESGs are too expensive for unclear returns.
“From a purely economic standpoint, you are subjecting participants to higher fees that are not necessarily demonstrated to produce long-term results,” he said. “It’s the worst of both worlds.”
Still, institutional investment companies such as BlackRock Inc., the world’s largest asset manager, have pushed for more consideration of ESGs in recent years.
They say the Labor Department’s proposal levels the playing field for ESGs and brings retirement plans in step with the ways independent investors view the funds.
The American Retirement Association, the nation’s largest advocacy group of retirement plan professionals, said it “enthusiastically” supports the proposal.
“We are pleased that the DOL has established a level playing field for ESG investment considerations in retirement programs, consistent with ERISA’s requirement that plan fiduciaries’ decisions be first and foremost prudent, and in the best interests of plan participants and beneficiaries,” Brian Graff, CEO of the American Retirement Association, said in a statement.
The proposal is subject to a 60-day comment period that concludes Dec. 13.
Correction: An earlier version of this article incorrectly reported the amount of ESG assets expected by 2025. The amount is more than $53 trillion.