While bank collapses have dominated recent headlines, another newsworthy development has emerged for investors: President Biden’s first veto. The veto upholds a Department of Labor (DOL) rule allowing retirement fund managers to consider climate change and other environmental, social and governance factors in investment decisions. After a veto override failed, the bill—which attempted to roll back the DOL rule—appears to be dead. Unlike under the Trump administration, retirement funds can still legally include environmental, social and governance investment considerations.
While the banking scare and the anti-DOL legislation have been treated separately by the media, they share a common theme: risk. The collapse of Silicon Valley Bank was a case of interest rate risk (bonds decreasing in value as rates rose quickly) leading to liquidity risk (the need to sell those suddenly-depreciated bonds—rather than hold them to maturity, to recoup losses—in order to raise cash). On the other hand, failure to consider issues like climate change, equity, or shareholder rights can expose companies to operational risk (e.g. volatile energy prices or climate-related supply chain disruptions), reputational risk (e.g. boycotts over forced labor or Russia’s invasion of Ukraine), or competitive risks (e.g. rivals with more inclusive governance practices developing successful strategies to attract a younger customer base).
Much regulation of the corporate world can be viewed as an attempt to put risk management on an equal footing with opportunism. Legislation governing public companies mandates an enormous range of risks be not only considered, but fully disclosed to investors at every turn. Silicon Valley Bank’s annual SEC disclosure, filed just a month ago, listed no fewer than 38 different risk factors that applied to its business. Investment managers are similarly required to disclose a range of risks, best known for the mantra that past performance is not a guarantee of future results.
The ultimate success of the DOL rule may lie in its recognition that environmental and social factors deserve the same systemically critical—but superficially dull—treatment as other investment risks. With 55% of its assets in mostly long-term, fixed income investments, compared to an industry average of 24%, Silicon Valley Bank was insufficiently attentive to interest rate risk (as were, some would argue, the regulators who oversaw it). Similarly, companies that turn a blind eye to climate change can imperil the physical facilities their businesses depends on, the cost stability of core operational line items like hydroelectric power or road transportation, the resilience of their supply chains, and even the functionality of their products, to name a few.
Of course, we believe climate change and other environmental and social challenges present not just risks, but opportunities for companies that do their part in seeking solutions. But for some attached to traditional energy sources and the industries they support, of course, the opportunity argument can feel threatening. This in turn makes it a harder sell. Instead, we believe a risk-based regulatory approach to incorporating environmental and social issues in investing is the right place to start. Many companies are already planning for these challenges; most investors are already aware of them. With a regulatory focus on real-world risks, similar to that applied for decades to the banking industry and others, opponents of sustainable investing will find very few inroads for their objections.