Climate reflections for UK pension schemes: Governance is king

Scheme governance

Welcome to our reflections on the experiences of the schemes that published “Task Force on Climate-Related Financial Disclosures (TCFD) reports” in 2022^[1]. These reports represented the UK’s largest schemes – those with assets of £5bn or more. The Pensions Regulator (TPR) published its review of the reports in March 2023, and this three-part series includes their key findings alongside our reflections, having advised many of the 71 schemes that published reports in this first wave.

In part one, we outline some of the key findings from TPR’s review along with more detail on the governance aspects of the reports.

In part two, we will dive deeper into the reports' often-complex strategy, scenario analysis and risk management sections.

In part three, we will discuss the metrics and targets section of the reports before concluding with our thoughts on what schemes of all sizes should do next.

Introduction

To set the context, the world’s climate is in a perilous state. It is already over 1 degree warmer than it was in pre-industrial times and temperatures are expected to continue to increase based on current climate policies^[2]. Several tipping points have passed or will be passed soon, with potentially vast and irreversible damage to our world and irreversible changes to how we live^[3].

Therefore, large asset owners, like pension schemes, must manage the risks associated with climate change. It is equally important that they take positive action to support a timely and orderly transition to a net-zero carbon future. In this context, legislation was introduced via the Pension Schemes Act 2021 to compel trustees of the largest UK pension schemes to publish reports in compliance with TCFD requirements.

Preparing TCFD reports has been a significant undertaking for trustees. TPR noted that many were “substantial” documents (of up to 85 pages), demonstrating an encouraging level of engagement. TPR further stated that most of the reports complied with all the basic legislative requirements. However, there is still considerable work to do to ensure that schemes’ responses to climate change risks and opportunities do not stop at reporting.

Governance

Good governance leads to better outcomes for members. Only through good governance will trustees be able to take appropriate actions that address the risks and opportunities presented by climate change. TPR was pleased with how many schemes had integrated climate into their existing governance structures. TPR recognised the importance of educating trustee boards on climate issues, and praised the boards that had undertaken a gap analysis to identify specific areas where further training was needed.

It is a requirement for TCFD reports to explain how trustees ensure that the advice they receive, and those taking decisions on their behalf, take climate-related risks into account appropriately. TPR felt that this aspect of the reports sometimes fell below the required standard. For example, how are trustees assessing the competence and knowledge of in-house teams? And are trustees considering the abilities in this area of their actuarial and covenant advisers as well as their investment adviser?

Conclusion

A key requirement for any well-run scheme is to have robust processes in place to identify, assess, manage and monitor risks and it’s crucial that this now includes climate-related risks. Adjustments (for example, on responsibility for the assessment, management and reporting of climate-related risks on an ongoing basis) could potentially be made to existing processes alongside governance reviews in response to TPR’s upcoming new General Code of Practice. Climate-related risks and the implications for the scheme’s assets, liabilities and sponsors are some of the key risks to consider. Schemes that recognise this will be best placed to take advantage of the opportunities that arise along the path to a low carbon future.

Part two of this series covers the strategy, scenario analysis and risk management sections of the TCFD reports, which have provided considerable food for thought for many trustee boards. Read more now.

Footnotes

1. Climate reports prepared following the Occupational Pension Schemes (Climate Change Governance and Reporting) Regulations 2021, which were based on the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD). Return to article
2. Source: Massive gas expansion risks overtaking positive climate policies, Climate Action Tracker. Return to article
3. Source: Exceeding 1.5°C global warming could trigger multiple climate tipping points, Science. Return to article