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Can ESG Help Make NJ's Pension-Fund Investments More Ethical?

Some states are using ESG factors - environmental, social, and governance - to evaluate investments in companies. Will New Jersey follow suit?

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The federal government's inaction on issues like climate change and gun violence has led elected officials in New York City, California, and other places to start using public-employee pension funds to exert more influence, including by pulling back investments in oil companies and gun manufacturers.

That hasn't been the case so far in New Jersey, but policymakers for the state's $77.5 billion public-employee pension system are now looking into whether it makes sense to start considering an investing approach known as "ESG" that looks at more than just the immediate bottom line.

The three letters stand for environmental, social, and governance, and the investment-scoring system looks at a company's ethical policies while evaluating a potential investment, such as whether a company follows sustainable environmental practices and has adopted sound corporate-governance rules. While such an evaluation system can help prevent a pension system from taking on investments in companies that benefit from unsavory practices, there's also been some evidence that ESG investing is an overall good strategy, such as by encouraging investments in profitable, emerging green-energy technologies.

A closer look at ESG

Last year, the state Division of Investment, which manages the state pension system's investments on a day-to-day basis, started to review what similar public-pension funds are doing in the area of ESG, and a staffer within the agency has been tasked with serving as a point person on the issue going forward. Members of the New Jersey State Investment Council, which sets policy for the pension system, also decided during their last public meeting in Trenton to set up an ESG subcommittee to look more closely at the investing strategy, and how exactly the state could begin using it to evaluate potential investments.

The concept of investing for more than just the biggest financial return is not a new one, but it has gained new interest in recent years as investors have sought to reward companies for adopting policies that line up well with their own views on issues like climate change. And at the institutional level, state pension-fund leaders have also begun using pension investments for broader political purposes. For example, California's state treasurer last year called for divesting public-worker retirement funds of stakes in firearm and ammunition retailers, and earlier this year New York City Mayor Bill de Blasio said the city's employee-pension system would get rid of stakes in fossil-fuel businesses.

In New Jersey, there are already a series of public-employee pension-investment bans in place, but they all relate to foreign policy issues. For example, in 2005 New Jersey cuts ties with companies doing business with Sudan's Khartoum regime in response to its brutal treatment of villagers in the Darfur region. A few years later, state lawmakers also prohibited the investment of pension system assets in foreign companies that do business with Iran. More recently, the state started banning pension-system investments in companies that have decided to boycott Israel to protest its treatment of Palestinians.

Ethical without being political

Gregg Sgambati, a Mahwah resident, suggested to state investment council members during their public meeting in Trenton earlier this month that ESG investing could be used to help guide the investment process in a more ethical direction, but without being overtly political.

For example, a few years ago the investment council decided to get rid of its stake in a private equity fund after hearing complaints about that fund's ties to a company that was practicing aggressive payday lending in Texas. Payday lending in any form is banned in New Jersey. And more recently, the investment council was warned about stakes it holds in private-equity funds that have ties to a potential mortgage crisis unfolding in hurricane-ravaged Puerto Rico.

Sgambati, who is also the managing director and head of ESG solutions at Manhattan-based S-Network Global Indexe, suggested that looking at an investment's ESG rating could help draw out these types of issues before the investment is closed.

"That's where ESG is a positive," he said.

Earlier on during the meeting, Christopher McDonough, the director of the Division of Investment, said staff has been attending ESG conferences as part of a broader investigation of the issue that's unfolded over the past year. Other public-worker pension funds have also been polled to see what the state's peers have been doing in this area, he said. (In California, the State Teachers' Retirement System has already set up a "Green Initiative Task Force" to incorporate environmental factors into its risk-management process.)

Formal assessment

A more formal analysis of how an ESG approach could be used to help evaluate New Jersey pension investments could be ready to be presented to the investment council as soon as its next monthly meeting, McDonough said

"I'm a little hesitant to put a timeframe on it, but what I could commit to is coming back to the next meeting, or at least within the next two meetings, with some formal analysis and then seeing where we take it from there," he said.

Taking the lead on the issue on the council itself will be vice chairman Adam Liebtag, the panel's AFL-CIO labor-organization representative.

"What I'd like to suggest to the full council is to just form a working subcommittee to work on ESG," Liebtag said during the meeting, a suggestion that was immediately embraced.

Afterward, Sgambati praised the officials for moving forward on the ESG issue, something he previously encouraged them to do back in 2015.

"I'm impressed by the fact that it's being looked at strongly," Sgambati said.

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