The Chief Finance Officer submitted a report detailing the legal advice available on ethical investments.
The report was submitted, following a review of the Teesside Pension Fund and Investment Panel (TPFIP) minutes held on 17 June 2015 by the Board and a subsequent request from Members to view the legal advice available in relation to ethical investments and Panel Members' fiduciary duties.
As part of the Local Government Pension Scheme (Management and Investment of Funds) (Amendment) Regulations 1999, the Fund was required to prepare, publish and maintain a Statement of Investment Principles (SIP). The SIP was required to include a statement with regard to the extent that social, environmental or ethical considerations were taken into account (if at all), in the selection, retention and realisation of investments.
The report contained an extract from the Fund's SIP which outlined the Fund's current position in respect of ethical investments. The Panel was advised that there were three practical ways of implementing an ethical, environmental and socially responsible investment policy which included negative screening; positive screening and active engagement. An explanation of each of the different processes was included within the report.
A definition of Fiduciary Duty was provided within the report. The Panel was advised that Trustees must also exercise their investment powers for a proper purpose, i.e. the purpose for which the Scheme was established. In the case of the Fund, this was ultimately to pay future pensions to members and in doing so to obtain sufficient returns to meet the Fund's actuarially calculated liabilities and achieve full funding. Extracts of notable legal cases which included Cowan v Scargill (1984), Martin v City of Edinburgh District Council (1988) and Harries v Church Commissioners (1992) were included within the report.
Extracts from the following regulations outlining the requirements of fiduciary duties relating to the Pension Fund were included within the report:-
The Occupational Pension Schemes (Investment) Regulations 2005 (SI 2005/3378);
The Local Government Pension Scheme (Management and Investment of Funds) Regulations 2009 (SI 2009/3093) in relation to social, environmental and ethical considerations within Statement of Investment Principles.
Reference was made to Law Commission Report 350 which was as a result of a project carried out by the Law Commission to consider how the law of fiduciary duties applied to investment intermediaries. The project was commissioned as a result of the Kay Review, published in 2012, which set out ten principles for the UK equity market. Principle 5 was that 'all participants in the equity investment chain should observe fiduciary standards in their relationships with their clients and customers'.
The final report of the Law Commission recommended that the Government should review the following two aspects of the Local Government Pension Scheme (Management and Investment of Funds) (Amendment) Regulations 2009:
1. Whether the Regulations should transpose article 18(1) of the IORP Directive - (Article 18 states that a fund has a 'fiduciary duty to act in the best interest of its members', however this requirement has not been transposed into law for LGPS funds). A full definition of Article 18 (1) was provided within the report.
2. Those aspects of Regulation 9 which require investment managers to be appointed on a short term basis and reviewed at least every three months. (This recommendation was a criticism of funds that reviewed the performance of investment managers quarterly and as part of the performance review, considered re-appointment).
The other part of the report which was relative to LGPS funds was in relation to pension trustees' duties when setting an investment strategy. The conclusion of the Law Commission was that trustees must always take account of financial factors when making investments, securing the best realistic return over the long term. Trustees could take into account other non-financial factors but only if the following two tests were met:-
1. Trustees should have good reason to think that scheme members would share their concerns; and
2. The decision does not involve a risk of significant financial detriment to the fund.
The LGA had sought further clarification on the nature of the duties which fell upon the administering authorities of funds established for the purpose of LGPS from Queens Counsel.
The advice received was that investment decisions must be directed towards achieving a wide variety of suitable investments, and to what was best for the financial position of the fund. The choice of investments could be influenced by the wider social, ethical or environmental considerations as long as that did not risk material financial detriment to the fund. The administering authority may not prefer its own particular interests to those of other scheme employers, and should not seek to impose its particular views where those views would not be widely shared by scheme employers and members (nor may scheme employers impose their views upon the administering authority).
Reference was made to the Draft Investment Regulations 2016 and consultation, in particular paragraphs 3.7 and 3.8 in relation to Non-Financial factors:
3.7 The Secretary of State has made clear that using pensions and procurement policies to pursue boycotts, divestments and sanctions against foreign nations and the UK defence industry are inappropriate, other than where formal legal sanctions, embargoes and restrictions have been put in place by the Government. The Secretary of State has said, "Divisive policies undermine good community relations, and harm the economic security of families by pushing up council tax. We need to challenge and prevent the politics of division."
3.8 The Local Government Pension Scheme (Management and Investment of Funds) Regulations 2009 already require administering authorities to publish and follow a statement of investment principles, which must comply with guidance issued by the Secretary of State. The draft replacement Regulations include provision for administering authorities to publish their policies on the extent to which environmental, social and corporate governance matters are taken into account in the selection, retention and realisation of investments. Guidance on how these policies should reflect foreign policy and related issues will be published ahead of the new Regulations coming into force. This will make clear to authorities that in formulating these policies their predominant concern should be the pursuit of a financial return on their investments, including over the longer term, and that, reflecting the position set out in the paragraph above, they should not pursue policies which run contrary to UK foreign policy."
The Board was advised that the Teesside Pension Fund was an active member of the Local Authority Pension Fund Forum (LAPFF) which provided a customised, cost effective vehicle for local authority pension funds to improve both their effectiveness as responsible investors and their compliance with the Myners Principle 5 - responsible ownership.
In response to a query with regard to whether the Fund could make a decision to divest of its investments in tobacco, the Board was advised that the returns realised from its investment in tobacco were very good. If the value of the Fund's investment in the tobacco industry reduced or underperformed and there were better alternatives to invest in, the Fund would consider whether to stop investing in the product but Fund Managers would always have to consider their fiduciary duty.
The new Investment Regulations 2016 were due to come into effect on 1 April 2016 with a transition period of six months for the LGPS funds to produce and approve their Investment Strategy Statements. The guidance referred to the need to produce an environmental, social and corporate governance policy which reflected foreign policy and complied with the predominant concern that a financial return on investments should be provided before the end of the transition period.
ORDERED that the report and its contents be noted.