The trustee who ESG invests fiduciary funds signals his personal support for environmental, social, and governance causes unrelated to the trust’s purposes and its beneficiaries’ pecuniary interests. Take the G part. Assume trustee of an irrevocable trust for a child’s education elects to invest a portion of trust res in companies producing satellites, but only in those with a sizable percentage of hard-science PhDs on their boards. That’s not ESG investing, the purpose of the caveat being to maximize trust estate’s economic value, not to signal personal solidarity with the scientific community. But if trustee, to signal, say, personal solidarity with society’s elderly, makes a public display of avoiding companies with boards lacking age diversity, that would be ESG investing. Cf. Gray & Berry, Nasdaq’s Boardroom Diversity Push Isn’t Evidence-Based, WSJ, April 29, 2021.

Common law as enhanced by equity provides that “[a] trustee ordinarily violates the duty of loyalty by using trust property to benefit anyone other than the beneficiaries, or to accomplish any objective other than a trust purpose.” 3 Scott & Ascher §17.2.3. “We conclude that the duty of loyalty…forbid[s] social investing in its current form.” Langbein & Posner, Social Investing and the Law of Trusts, 79 Mich. L. Rev. 72, 76 (1980). See also Rest. (Second) of Trusts §170 cmt. q (“The trustee is under a duty to the beneficiary in administering the trust not to be guided by the interest of any third person”).

Consider unlikely situation of two companies being identically suited in all respects for inclusion in the portfolio of the child’s trust. One is non-ESG-compliant. Is the trustee free to signal the trustee’s personal solidarity with ESG constituencies by investing fiduciary funds in the other? Is equity fine in theory with such a “tiebreaker”? Time will tell. In practice, however, if the ESG-compliant company underperforms relative to non-compliant one and it comes out at trial that the trustee knew at the outset that the non-ESG-complaint company had been better suited for the portfolio, then the trustee could be held personally liable not only for consequential investment losses but also for the fees of the special master tasked with running the “identicality” numbers. As to the constructive-fraud implications, see §8.15.60 of Loring and Rounds: A Trustee’s Handbook (2023), which section is reproduced in appendix below. Handbook is available for purchase at https://law-store.wolterskluwer.com/s/product/loring-rounds-trustees-hanbook-2023e/01t4R00000Ojr97QAB.

ERISA requires that trusts associated with qualified plans be dedicated solely to securing/ protecting the equitable property rights of plan participants and their beneficiaries and administered solely for their benefit. The ESG-investing “tiebreaker” is inconsistent with those statutory purposes. See §404 of ERISA and its declaration of policy. Congress relied on the common law of trusts to define the general scope of an ERISA-fiduciary’s authority and responsibility, not the Secretary of Labor.

Still, effective 1/30/23, the Secretary of Labor, via an ERISA-regulation revision, would carve out an exception to the pension trustee’s duty of undivided loyalty, one that, as a practical matter, gives trustees carte blanche to ESG-invest. The gimmick is a neutering of the tiebreaker’s “identicality” threshold: “If a fiduciary prudently concludes that competing investments, or competing investment courses of action, equally serve the financial interests of the plan over the appropriate time horizon, the fiduciary is not prohibited from selecting the investment, or investment course of action, based on collateral benefits other than investment returns. A fiduciary may not, however, accept expected reduced returns or greater risks to secure such additional benefits.” See 29 CFR § 2550.404a-1(c)(2). Pension trustees seeking to ESG-invest unconstrained by the fiduciary principle whose investments never underperform can take comfort in the revised regulation, but not in the likelihood that it violates ERISA’s statutory letter and spirit.