Savers look for more green in their 401(k)

We are seeing, after decades in the making, a groundswell of demand for ESG investing — a discipline for analyzing investments using environmental, social, and governance criteria.

Demand may be strong, but there has yet to be a surge of ESG options in retirement savings plans. Although ESG is popular among institutional investors, its advance in the retail retirement market has been hobbled, in part, by perception.

Doing good was a “trade-off”

Early on in the so-called “green investing” movement, investors believed that supporting these funds would mean sacrificing returns. Over time, ESG investment strategies became more rigorous and corporate disclosures became more helpful, providing more transparency and data about the impact of ESG factors on performance.

• Today, 82% of S&P 500 Index companies disclose information about sustainability issues.
• More than 1,800 institutions have signed on to the United Nation’s Principles for Responsible Investment, adding to the commitment and data around ESG investing.
• In an effort to quantify the impact of ESG, researchers at Harvard Business School found that when companies focus more attention on material ESG issues, it can have a positive impact on stock performance.

Investor demand has grown as well. ESG assets rose to $8.72 trillion in 2016, up from $6.57 in 2014, representing a 33% increase. This total reflects a broad measure that includes different levels of commitment to ESG approaches.

A growing number of individual investors are interested in ESG, and some new trends have developed. Research from Morgan Stanley’s Institute for Sustainable Investing found that women demonstrate more interest in ESG investing than men. And among Millennials, 90% want to see sustainable options in their workplace retirement plans.

Perception still evolving

Changes in perception, however, may evolve more slowly. In another Morgan Stanley study, 53% of investors remained skeptical about ESG investments and believe that there will be a trade-off in returns.

Regulatory guidelines also play a role. It was just over two years ago that the Department of Labor (DOL) issued guidance for qualified plan fiduciaries around ESG factors when evaluating comparable investments. The DOL continues to clarify its approach to ESG and recently published additional guidance that detailed the process for plan fiduciaries to evaluate ESG investments. Still, only 7% of corporate defined benefit plans and 24% of defined contribution plans offer ESG investments in their portfolios.

Having been in this business since its nascent years, I know that change in the 401(k) space takes time.

Could plan design build participation?

?With the increased demand and interest from younger investors, ESG options in 401(k) plans may result in higher levels of participation and contributions. For decades, the industry has fine-tuned the infrastructure and tapped into behavioral finance to build a system of automated plan design features that encourages saving. Understanding how investors think about their investments in a context of social responsibility could play a role in taking 401(k) plan design and choice architecture to the next level.

The opinions expressed here are my own and not those of Putnam Investments, Empower Retirement, Great-West Financial, or their subsidiaries, and are not intended as tax, legal, or investment advice.