Understanding fiduciary duty

In South Africa, the most relevant interpretation of our world-leading pension funds act is that is the duty of trustees to invest for resilience and sustainability over the long term (and not to ‘maximise returns’).

This was a key message from our July/August 2019 events on ‘Climate-Proofing Retirement Funds’: that much as trustees may rely on asset managers and asset consultants for advice and guidance on managing these risks, the responsibility for asset allocation and risk management always ultimately lies with trustees.

Our expert speakers, Rose Hunter of Fasken and Tracey Davies of Just Share, debunked these dangerous myths:

  • That trustees are answerable to fund members. (Not true.)
  • That it is a duty of trustees to maximise financial returns. (Not true.)

The facts are that:

  • Trustees may take advice from asset managers and asset consultants, but the final responsibility for asset allocation does lie with them. As Fiona Reynolds put it, “You can outsource asset management. You can’t outsource your responsibility.”
  • Trustees must exercise independent judgment as fiduciaries, with a duty of loyalty to the fund itself.
  • Their judgment should be aimed at ensuring the long-term sustainability of the fund and its ability to fully serve its members (which may at times require avoiding high short-term returns if those returns will compromise the long-term sustainability of the fund).

Further information on fiduciary duty

A key question for investment managers and trustees considering divestment on the grounds of socially responsible investment practice is whether adopting such an approachment is consistent with their legal obligations, referred to as “fiduciary duty”.

Over the past 30 years, a considerable body of thought on the nature of socially responsible investment (SRI) has evolved. A history of SRI may be found in this Deutsche Bank study. It is worth noting that on the whole, the world is moving towards greater SRI and not away from it.

The limitations of current SRI practice is that much of it remains in the form of voluntary agreements and standards. But the overwhelming implication of this evolving body of thought and practice, considered together, is not just that fossil fuel divestment can be justified by evolving norms in responsible investment. Rather, it is clear that even if actual business practice has yet to catch up, fossil fuel divestment is now effectively mandated by current norms and standards.

This point was made emphatically five years ago in the UN Environment Programme report, Fiduciary Responsibility, which said:

Global capital market policymakers should also make it clear that advisors to institutional investors have a duty to proactively raise ESG (environmental and social governance) issues within the advice that they provide, and that a responsible investment option should be the default position.

The original definition of corporate social responsibility, by Howard Bowen in his 1953 book Social Responsibilities of the Businessman was “the obligations of businessmen to pursue those policies, to make those decisions, or to follow those lines of action which are desirable in terms of the objectives and values of our society.” In an era where the world’s governments have agreed to limit global warming, this definition suggests that unless a business firmly aligns itself with that climate target, it cannot be called socially responsible.

Below, we offer some key quotes relevant for investment managers and trustees considering divestment in South Africa.

First, though, a definition is in order – what is meant by sustainable development? As defined by the 1987 Bruntland Report, it refers to the concept of meeting present needs without compromising the ability of future generations to meet their needs. It encompasses social welfare, protection of the environment, efficient use of natural resources and economic well-being. (This definition has clear implications for economic studies of future climate change, as it suggests that valuations should be based on a very low discount rate that gives equal weight in present-day decisions to the financial interests of future generations.)

The United Nations Principles on Responsible Investment (UN PRI)

How does the UN PRI define responsible investment?

Responsible investment is an approach to investment that explicitly acknowledges the relevance to the investor of environmental, social and governance factors, and of the long-term health and stability of the market as a whole. It recognises that the generation of long-term sustainable returns is dependent on stable, well-functioning and well governed social, environmental and economic systems.

Responsible investment can be differentiated from conventional approaches to investment in two ways. The first is that timeframes are important; the goal is the creation of sustainable, long-term investment returns not just short-term returns. The second is that responsible investment requires that investors pay attention to the wider contextual factors, including the stability and health of economic and environmental systems and the evolving values and expectations of the societies of which they are part. Looking to the future, these issues will be increasingly key drivers of industrial and economic change, and the most successful companies are likely to be those that respond most effectively to these challenges. Indeed there is a growing base of evidence to highlight that companies which bring sustainability into the heart of their business strategy, outperform their counterparts over the long-term, both in terms of stock market and accounting performance.

The World Bank

Jim Yong Kim, president of the World Bank, speaking at the World Economic Forum in Davos, February 2014, was forthright about the direction in which divestors should be moving:

Be the first mover. Use smart due diligence. Rethink what fiduciary responsibility means in this changing world. It’s simple self-interest. Every company, investor, and bank that screens new and existing investments for climate risk is simply being pragmatic.

The “Fiduciary II’ report of the United Nations Environment Programme


Code for Responsible Investing in South Africa

The definition of “value” has evolved from its traditional measure in financial terms. It is no longer appropriate for institutional investors to focus on only monetary benefit to the ultimate beneficiaries of investments to the exclusion of factors that impact on long-term sustainability. Modern governance thinking advocates that in addition to economic considerations, boards of companies should consider all those factors which impact the long-term value of companies such as the natural environment and social factors. Such an approach will in the long-term be in the interest of ultimate beneficiaries as part of the delivery of superior risk-adjusted returns on investment that has been done cognisant of the environmental and socio-economic context.
– Introduction to the Code for Responsible Investing in South Africa (CRISA) 2011

CRISA Principle 1: An institutional investor should incorporate sustainability considerations, including ESG, into its investment analysis and investment activities as part of the delivery of superior risk-adjusted returns to the ultimate beneficiaries.
1. An institutional investor should develop a policy on how it incorporates sustainability considerations,
including ESG, into its investment analysis and activities. The matters to be dealt with in the policy should include, but not necessarily be limited to, an assessment of:
a. the sum of tangible and intangible assets of a company;
b. the quality of the company’s integrated reporting dealing with the long-term sustainability of the 
company’s strategy and operations. If integrated reporting has not been applied, due enquiry should be 
made on the reasons for this;
c. the manner in which the business of the company is being conducted based on, for example, alignment 
with targeted investment strategies of the institutional investor and the code of conduct and 
supply chain code of conduct of the company.
2. An institutional investor should ensure implementation of the policy on sustainability considerations, including ESG, and establish processes to monitor compliance with the policy.

(In order to avoid any misunderstanding in CRISA the terminology “sustainability” and “ESG” are used in order to indicate an understanding of governance in its wider sense, encompassing behaviour that supports sustainable development.)

The full CRISA code can be accessed here.

South Africa: Regulation 28

The Amendment of Regulation 28 by the Minister of Finance under Section 36 of the Pension Funds Act, 1956 now states in the preamble (Pension Funds Act, 1956: Amendment of Regulation 28. National Treasury. Government Notice) that:

A fund has a fiduciary duty to act in the best interest of its members whose benefits depend on the responsible management of fund assets. This duty supports the adoption of a responsible investment approach to deploying capital into markets that will earn adequate risk adjusted returns suitable for the fund’s specific member profile, liquidity needs and liabilities. Prudent investing should give appropriate consideration to any factor which may materially affect the sustainable long-term performance of a fund’s assets, including factors of an environmental, social and governance character. This concept applies across all assets and categories of assets and should promote the interests of a fund in a stable and transparent environment.

Note that the regulation refers to “adequate” returns, not “highest possible” returns.

Progressive South African business leadership

South African business practices are an often wildly paradoxical mixture of the extremely conservative (the Marikana Massacre) with the highly progressive (the South African Carbon Disclosure Project has one of the highest response rates when compared with other countries).

Looking to the future, I am concerned that as a country, and indeed globally, we are collectively undermining our long-term capacity to create value. It is not sustainable in this country for us to be mining out our non-renewables and to be driving down our existing infrastructure, without either reinvesting in renewable alternatives or in the development of new infrastructure, both of which are fundamental for future value creation.

A significant challenge that we face is that many of the big decisions taken today by business and by government are informed both by a very high discount rate (money today is more important than money in the future), as well by a failure to assign sufficient value to the resources that we rely on. If we continue to operate in a system in which taxes and incentives drive the short-term, then I am concerned that we doing ourselves all a significant disservice. I think we need to recognise that as an industry, we could play a bigger role in driving sustainability more broadly. Doing so would be to all our collective benefit. – Johan van Zyl, Group Chief Executive, Sanlam Sustainability Report, December 2011 (italics are our emphasis)

What about performance?

The idea that SRI practices will produce equivalent or superior returns to conventional high-return strategies has been part of the evolving thinking behind SRI for at least the past 50 years.

According to a Deutsche Bank meta-study:

SRI funds yield returns comparable to those of conventional benchmarks. The 9 individual academic studies find generally neutral or mixed results with one instance of market out-performance, and the literature review finds overwhelmingly (6) neutral or mixed results, with only one negative correlation between SRI fund performance and returns. – Deutsche Bank. Sustainable Investing: Establishing Long-Term Value and Performance. June 2012.

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