The new Labor Department regulations opens a way towards sustainability investment strategy, as the 401(k) plans to include ESG investments.
More retirement savers could soon have the option to invest in funds based on environmental, social and governance principles, under final regulations issued by the Labor Department on Tuesday.
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“Today’s rule clarifies that retirement plan fiduciaries can take into account the potential financial benefits of investing in companies committed to positive environmental, social and governance actions,” when selecting 401(k) investments and exercising proxy voting, Labor Secretary Marty Walsh said.
ESG funds have grown in popularity in recent years as individuals seek to invest in ways more consistent with their own values, and to benefit from growth in sectors such as renewable energy.
Globally, these funds collectively held some $2.2 trillion as of Sept. 30, according to Morningstar Inc.’s Morningstar Direct unit. U.S. sustainable funds held $272 billion.
The new rule allows employers to consider climate change and other environmental, social and governance effects when selecting 401(k) investments and exercising shareholder rights, such as proxy voting, she said. Employers must put the financial interests of employees first and cannot sacrifice potential returns for these goals, she added.
Currently, 13% of 401(k) plans offer socially responsible investment options to employees, according to data that Vanguard Group publishes on the 401(k) plans it administers.
Demand for such investments in 401(k) plans is likely to grow, especially from younger workers, industry observers said.
The financial industry tends to charge higher fees for ESG funds. Sustainable funds cost an average of 0.55% of assets in 2021, compared with 0.39% for traditional peers, according to Morningstar Direct.
ESG funds in the U.S. attracted $9.2 billion of new money in the first three quarters of 2022, down from $39 billion of new money in the first half of 2021, according to Morningstar Direct.