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Nov. 23, 2020, 3:40 p.m. EST

Here’s how you can add sustainable investments to your 401(k) holdings even if your plan doesn’t include ESG funds

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By Debbie Carlson

Even as the Trump administration actively discourages environmental, social and governance investing in employer-sponsored retirement plans — a rule the Biden administration may overturn — it’s not like investors had a lot of ESG choices to begin with.

When Morningstar looked at lineups for defined-contribution plans like 401(k)s or 403(b)s , the research firm found only 4.5% of these plans offered at least one sustainable fund — that is a fund that intentionally incorporates ESG.

But for those who want to invest that way, there are ways to do it within the company-sponsored retirement plan. It just takes some legwork to find them.

Socially responsible funds have been around since the 1980s. But most were so small that adding them to a company’s defined contribution could overwhelm the fund, says Michael Young, manager of education programs at US SIF, a sustainable investing advocacy group.

Now, though, more investors who want to align their investments with their values are seeking ESG funds. Assets under management have swelled in some of the biggest mutual funds and exchange-traded funds. And contrary to longstanding myths, these investors aren’t sacrificing performance. For 2020, many sustainable funds performed well , with 72% of sustainable equity funds ranked in the top halves of their Morningstar categories, and all 26 ESG index funds outperformed their conventional index peers.

Even so, plan sponsors are usually cautious to add new offerings in 401(k) or 403(b) plans unless employees make requests.

Without that, what can investors do?

The first possibility is to see whether the company’s 401(k) plan includes a brokerage option. If so, you can access ESG investments through a brokerage platform, says Jon Hale, head of sustainability research for the Americas at Morningstar.

It’s also possible that your plan offers some ESG-like funds. Some fund managers are starting to consider ESG metrics in their strategies. While not pure ESG funds, more of these “ESG consideration” funds are popping up in retirement plans; the Morningstar research showed about 22% of defined-contribution plans had at least one offering.

To find those funds will require a bit of extra reading. That information can be found in the fund’s statement of additional information, available either through the 401(k) site or the fund company itself, says Dmitriy Katsnelson, deputy chief investment officer for Wealthspire Advisors. Information on proxy voting and other shareholder advocacy also can be found there.

If those two options aren’t available, look for funds popular with 401(k) plans that get high sustainability marks from sustainability researchers, even if the fund’s managers aren’t intentionally investing that way. It takes some research using third-party information to dig into the fund’s holdings, and investors may have to settle on one of the ESG factors since sustainability is incidental to the process.

Young says investors can start by using free, public tools to start screening conventional funds and stocks for their ESG ratings. Morningstar and As You Sow’s Invest Your Values both rate funds and ETFs, while Sustainalytics (owned by Morningstar) and MSCI rate public companies’ ESG risks.

Investors screening conventional funds should remember that these ratings are snapshots in time, Katsnelson says. Holdings can change, which might eventually affect a fund’s ratings.

Hale says Morningstar’s sustainability rating is based on the previous 12-months’ worth of holdings. “It doesn’t mean the fund is trying to be sustainability-focused, but it does mean that its current holdings have lower ESG risk,” he says, noting that a lot of funds don’t change their holdings that much.

Greg Wait, an adviser at Milwaukee-based Riverwater Partners who actively works with retirement plans on selecting responsible investments, says that since there’s no one definition of sustainability, investors will find some ratings differences between the screeners. In that case, he says, look for some consensus.

None of the 100 most-common mutual funds found in 401(k) plans, based on assets under management, are ESG funds, Wait says. But a few stand out for having high incidental sustainability ratings.

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