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Portfolio alignment metric and final guidance on stewardship reporting

  • United Kingdom
  • Pensions

24-06-2022

On 17 June 2022, the Government published its response to consultation on climate and investment reporting.

The DWP has confirmed that larger occupational pension schemes (with assets in excess of £1 billion) and authorised DC master trusts will need to calculate and report an additional “portfolio alignment” metric from 1 October 2022. See our previous Speedbrief for further background: New requirements on stewardship and climate change

The DWP has also published revised statutory guidance on climate governance and reporting to reflect the portfolio alignment metric and final guidance on stewardship reporting.   

Portfolio alignment metric

The portfolio alignment metric will measure the extent to which a scheme’s investments are aligned with the Paris Agreement goal of limiting the global average temperature increase to 1.5°C above pre-industrial levels.

Trustees have flexibility to select the type of portfolio alignment metric which best reflects their scheme-specific circumstances. The IIGCC’s Net Zero Investment Framework suggests portfolio alignment metrics and implementation actions to achieve alignment effectively.

For their first TCFD report, several large schemes are calculating and reporting a portfolio alignment metric as their additional climate change metric already. For next year’s report, these schemes will need to select an additional climate change metric.  

The statutory guidance sets out additional climate change metrics, which include:

  • Climate risk at value (measuring the size of loss attributable to climate-related risks a portfolio may experience);
  • Data quality (measuring the proportion of the portfolio for which trustees have high quality data); and
  • Proportion of assets materially exposed to climate-related transition risks, physical risks or aligned towards climate-related opportunities.

The DWP says trustees should describe the methodology and data assumptions used when disclosing their portfolio alignment metric.

Final guidance on stewardship reporting

The Government has also published final stewardship guidance – this is split into statutory guidance (to which trustees must have regard) and non-statutory guidance (which reflects best practice, but trustees are not obliged to take into account).

The statutory guidance applies to Implementation Statements (“IS”) for any scheme year ending on or after 1 October 2022.

The non-statutory guidance focusses on stewardship reporting in SIPs and applies from 17 June 2022 (the date of publication). 

Key points in the final guidance:

  • The DWP explicitly confirms that The Pensions Regulator is the primary audience for the SIP and IS: in our view, this is one of the headline points in the new guidance. Whilst this is sensible (investment disclosures are becoming too detailed, granular and technical to be member-facing), it does suggest TPR will scrutinise SIPs and ISs more heavily going forward. We expect that, after the first round of reports, TPR will seek to be more proactive and potentially intervene when it does not consider reporting is up to scratch.  This step potentially also opens the door for the DWP to confirm that other documents which are said to be for members – such as Chair’s Statements – are, in fact, primarily aimed at the Regulator.
  • The DWP encourages trustees to produce member-facing summaries of their IS and SIP: the DWP encourages summaries where scheme-specific research finds that members are more likely to engage with a different style of communication. We expect most trustee boards would deem it unnecessary to conduct research on their scheme’s membership to reach this conclusion, so we expect summaries (with signposting to the full document) to become commonplace.
  • Non-financial factors: the DWP encourages trustees (where it is practical to do so) to keep under review non-financial factors that may not immediately present as financially material but have the potential to become so, particularly for schemes with a long-term horizon. This reflects the evolving nature of ESG and the relevance of emerging concepts such as the “Just Transition”.  This was one of the points we flagged in our response to the consultation, and members of our team recently contributed to The Just Way, the case for a Just Climate Transition, a report by Scottish Widows on the social and societal impacts of the climate transition.  
  • Members’ views: the DWP encourages trustees to make it possible for savers to express views on both default arrangements and self-select options.
  • Vote reporting template: the DWP recognises there is no appetite to include a vote reporting template or a template to report engagement activities in statutory guidance. It says trustees may wish to consider using the PLSA’s vote reporting template, and the guidance on reporting engagement drawn up by the Investment Consultants Sustainability Working Group (ICSWG).

Statement of investment principles (non-statutory guidance) – applicable from 17 June 2022

  • Trustees to take ownership of stewardship: the Government expects trustees either to set their own voting policy or, if they have not set their own policy, to explain in the SIP how they will monitor their asset manager’s voting policy. Trustees cannot simply state in the SIP that they delegate engagement and their voting rights to their investment managers.
  • Alignment with the Stewardship Code: when preparing or revising the SIP, the DWP encourages trustees to consider whether there is alignment with the UK Stewardship Code. Whilst the DWP does not explicitly push trustees towards signatory status, it is clear that this is very much the direction of travel. There are multiple cross-references to the Stewardship Code and it is evident the DWP sees it as the gold standard to which schemes should aspire.
  • Stewardship priorities: the Government encourages trustees to summarise in their SIP the stewardship priorities which will inform their engagement activities and to explain why they have selected these priorities (including why they believe them to be in members’ best interests). The DWP says trustees should ensure that their service providers (and those carrying out engagement (including voting) on their behalf) are aware of their stewardship priorities.  

Implementation Statement (statutory guidance) – applicable to scheme years ending on or after 1 October 2022

  • Voting disclosure: trustees should explain in the IS whether the voting undertaken on their behalf reflects their voting policy (or, if they use their asset manager’s voting policy, they should summarise how it reflects the trustees’ stewardship priorities). If asset managers are unable to give details of significant votes in time for publication of the IS, trustees should include as much detail as possible (including what information is missing, and why). The guidance clarifies that trustees can provide links to their managers’ voting policies, if applicable.
  • Members’ best interests: the DWP encourages trustees to describe in the IS how they have implemented the policies in their SIP to drive long-term value for beneficiaries.
  • Expression of wish: where trustees set an expression of wish on voting in relation to a particular investment, they should indicate in the IS whether this has been taken into account by their asset manager when describing voting behaviour. The DWP considers expressions of wish to be an important development which will allow asset owners to provide their managers with a greater level of insight on their views.
  • Significant votes: the Government clarifies that a significant vote is likely to be one that is linked to one or more of the scheme’s stewardship priorities. Trustees should explain why they consider a vote is significant, what the vote was, and why they or the asset manager (on their behalf) voted in the way they did. The final statutory guidance sets out how trustees should disclose the most significant votes (by company name, size of holding, summary of resolution, explanation for vote, voting outcome and next steps).

Key take-aways and next steps

  • The non-statutory guidance on SIPs took effect from 17 June 2022, so trustees should start to consider how to reflect their stewardship policies in the SIP.
  • Trustees should also consider how the new statutory guidance on ISs will affect their next IS and, indirectly, the SIP policies on which the IS reports.
  • It is clear that the DWP considers setting clear stewardship priorities as the foundation for effective stewardship activity and achieving good outcomes for members. The PLSA’s Stewardship and Voting Guidelines make the same recommendation and, in our view, is helpful to schemes of all sizes and complexity.
  • The DWP (and TPR) have expressed their support for the UK Stewardship Code – therefore, schemes who are not yet signatories but have the resources and governance bandwidth to apply for signatory status may wish to consider making an application.
  • Whilst the guidance focussing on SIPs is non-statutory, it reflects best practice. Schemes not taking into account the guidance may quickly become outliers and at risk of regulatory scrutiny.
  • The guidance on ISs is statutory and sets out what DWP considers schemes must do, in order to comply with the legal requirements. Given TPR is the primary audience for ISs, in our view, schemes must follow the statutory guidance to mitigate the risk of regulatory scrutiny and ensure they are fully compliant with the legal requirements.