Appeal court restores public sector pensions investment guidance

Its judgment overturns that of the High Court, which found last year that the relevant parts of the guidance did not have a "pensions purpose". The Court of Appeal said that the judge's analysis of the 'purpose' of the guidance had been "unduly narrow", and that the secretary of state had been "entitled … to take into account wider considerations of public interest" when drawing up the guidance.

The challenge, which had been brought by the Palestinian Solidarity Campaign, related to the Preparing and Maintaining an Investment Strategy Statement guidance, issued by the government in late 2016 under the LGPS (Management and Investment of Funds) Regulations. The regulations required all administering authorities enrolled in the LGPS to prepare an investment strategy consistent with the guidance by 1 April 2017.

The guidance permits ethical and social objections to particular investments to be taken into account. However, it explicitly prevents administering authorities from using pension policies to "pursue boycotts, divestment and sanctions against foreign nations and UK defence industries" or pursuing policies that are "contrary to UK foreign policy of UK defence policy".

The High Court had been concerned that, with this point, the guidance had "singled out certain types of non-financial factors" as ones on which administering authorities were prevented from basing investment decisions; and that the secretary of state had not "justified the distinction". However, the Court of Appeal disagreed with the High Court judge that the secretary of state's failure to justify the distinction meant he was no longer acting for a 'pensions purpose'.

"If one approaches the matter on the basis that the powers conferred by the legislation must be exercised for a 'pensions purpose', then in giving guidance as to the extent to which non-financial considerations might be taken into account in an authority's investment strategy the secretary of state was in my view acting for an obvious pensions purpose; and the fact that he took into account considerations of foreign policy and defence policy in formulating the relevant part of the guidance did not convert it from a pensions purpose into a non-pensions purpose," said Sir Stephen Richards, giving the judgment of the court.

"For my part … I would avoid the language of 'pensions purpose', which is at best a shorthand and is liable to mislead; and I would say the same about the expression 'from a pensions perspective' which was used by the judge ... I find it more helpful to put the question in terms of whether the legislation permits wider considerations of public interest to be taken into account when formulating guidance to administrating authorities as to their investment strategy; and as I have said, given the framework nature of the statute and the broad discretion it gives to the secretary of state as to the making of regulations and the giving of guidance, I can see no reason why it should not be so read," he said.

Pensions expert Ben Fairhead of Pinsent Masons, the law firm behind Out-Law.com, said that the Court of Appeal's judgment had "opened the door for the government to be more restrictive about not allowing certain investments by the LGPS where there is an argument that they are against the wider public interest".

"This is likely to be more public-sector focussed, and there might well yet be a further appeal anyway, which could see the original decision reinstated," he said.

"The law governing investment duties more generally still emphasises the need for trustees to focus primarily on financial return. Ethical considerations can be taken into account - just not at the risk of financial detriment. It remains to be seen, though, whether this area will see some evolution of approach, given a greater awareness of external considerations when making investments in the same way as we are starting to see with climate concerns. Trustees should take account of non-financial factors, such as climate change, where these could have a material impact on investment performance," he said.

Pension scheme trustees have a duty to take account of all relevant considerations when making their investment decisions. Earlier this year, the House of Commons Environmental Audit Committee suggested that some trustees misunderstood the nature of their fiduciary duties as a need to "maximise short-term returns", an approach which could result in them underestimating longer-term risks. It has since written to the UK's top 25 pension funds to ask them how they manage the risks that climate change poses to pension savings.

A report by Pinsent Masons and the University of Leeds, published in April, aims to clarify how trustees can, and should, consider climate change as part of their investment strategy in an appropriate and proportionate way, despite the lack of a coordinated approach on how these factors should be taken into account. This week, the government backed the recommendations of an industry taskforce on social impact investment, and pledged to take action to better enable people to invest in line with their values.