UK Government should consider forcing default pension funds to align with national climate goals, say lawmakers

Work and Pensions Select Committee also warns of ‘brown’ asset bubble for pension funds

The UK Government should consult on making it mandatory for default funds in defined contribution schemes to align with the UK’s climate goals, lawmakers have suggested. 

At present, 95% of workers who are automatically enrolled into a workplace pension remain in the default fund, with not every provider offering a dedicated ESG or green alternative. A report on pension scheme stewardship ahead of COP26, published today by the Work and Pensions Select Committee, an influential scrutiny body composed of MPs from all parties, recommended that the Government “consult on whether there is a case for mandating that these default options should align to UK Government climate goals.” 

The report also found that greater regulatory clarity on the meaning of Net Zero is needed, recommending that The Pensions Regulator defines Net Zero alignment and develops guidance for schemes looking to set their own. 

It also recommended that the UK should seek greater harmonisation of climate reporting.

The report went on to warn that pension schemes in the UK may be exposed to a ‘brown’ bubble due to the overvaluation of fossil fuel assets, as investors are not yet considering the cost of changes resulting from climate change or the Net Zero transition.

The Committee also found that there was a corresponding risk of a green bubble due to a lack of suitable assets for schemes to invest in. Trade association The Pensions and Lifetime Savings Association said they had been told that “it is hard to find climate assets that have the impact they are marketed to have, and that it is difficult to find assets with the appropriate income […] to  enable  trustees  to  meet  their  fiduciary  duties”, while Mark Fawcett, Chief Investment Officer at £17bn scheme Nest told the Committee that there was “a very real risk” of a green bubble, but that this risk would decrease over time. 

In response, the report recommends that the Government continue to support the development of green products, including green gilts, to mitigate the risk.

Finally, the report supports Pension Minister Guy Opperman’s opposition to scheme divestment. In evidence given to the select committee, Opperman said that “divestment is the very last resort and is a fundamentally misguided policy”, and that “proper stewardship and voting will genuinely transform these companies”. The Committee concurs, writing that “widespread divestment by pension schemes is unlikely to have the required impact on the real economy’s contribution to climate change”. It recommends that the Department for Work and Pensions set out the steps it is taking to ensure that it does not incentivise divestment, while making it clear that divestment is an option of last resort.

Initial reactions to the report were positive. James Alexander, CEO of the UK Sustainable Investment and Finance Association (UKSIF), who gave evidence to the inquiry, said he “strongly welcomed” the report, which reflects many of UKSIF’s recommendations. 

Tony Burdon, CEO of campaign group Make My Money Matter, said he was pleased to see that pensions were on the agenda for the Government at COP26, but that “with the majority of pension schemes still failing to make robust net zero commitments, time is running out, and we must act with greater urgency if we are to use our pension power to truly tackle the climate crisis”. The Government should mandate all schemes to align to net zero, he said.