Comment Letter of Professors Max M. Schanzenbach and Robert H. Sitkoff on the Securities and Exchange Commission’s Request for Comment on the Names Rule for Mutual Funds in Light of ESG Investing and Other Market Developments

Abstract

In March 2020, the Securities and Exchange Commission asked for public comment on the names rule (rule 35d-1) for mutual funds in light of developments since the rule's adoption in 2001. Among such developments, the request for comment identifies burgeoning investor interest in environmental, social, and governance (“ESG”) investing and the corresponding proliferation of funds that purport to make use of ESG factors. This response to the SEC’s request for comment has two purposes: First, we provide clarifying context for the ESG investing phenomenon and a summary of the current state of theoretical and empirical literature in financial economics on it. Second, we discuss how this context informs the critical relationship between ESG disclosure by a mutual fund, both in the fund’s name and in its prospectus, and the rules (e.g., state trust law or ERISA) that govern the extent to which a trustee or other fiduciary may use ESG factors in fiduciary investment. We organize this response in four parts: (1) we provide a clarifying taxonomy on the meaning of ESG investing and the methods for implementing it; (2) we discuss the inherent subjectivity in identifying and applying ESG factors; (3) we assess the current theory and evidence on whether ESG investing can improve risk-adjusted returns; and (4) we identify four interrelated questions of regulatory policy stemming from growing investor interest in ESG investing, situating the request for comment toward potential revision of the names rule within that four-part framework. This response is largely but not entirely based on “Reconciling Fiduciary Duty and Social Conscience: The Law and Economics of ESG Investing by a Trustee,” 72 Stanford Law Review 381 (2020), https://ssrn.com/abstract=3244665.