Pilot Sues American Airlines and Others Over ESG Funds in His 401(k)

An American Airlines pilot filed a lawsuit against the company over sustainable funds offered in his 401(k) retirement plan. The move is raising questions about the so-called brokerage window that allows participants to venture outside the limited menu of investments offered by their employers’ plans. According to the suit, American AAL has one of the nation’s largest 401(k) retirement plans, with 100,000 participants and $26 billion in assets.

The complaint by American Airlines pilot Bryan Spence was filed on June 2, 2023, in federal court in Fort Worth, Texas, against American Airlines, its employee benefits committee, Fidelity Investments Institutional, and Financial Engines Advisors. It claims that the defendants “breached their fiduciary duties in violation of Erisa,” or the Employee Retirement Income Security Act of 1974, by making a variety of sustainable funds available to plan participants. According to the suit, which is seeking class status, such funds “pursue leftist political agendas through environmental, social, and governance strategies, proxy voting, and shareholder activism—activities which fail to satisfy these fiduciaries’ statutory duties to maximize financial benefits in the sole interest of the plan participants.”

The suit comes as political criticism against ESG and sustainable investing has increased and become part of the policy platforms of some Republican presidential candidates. Indeed, retirement savings plans are becoming a new battleground for ESG investing and sustainable investing.

Many fiduciaries believe they need to incorporate ESG analysis for a fuller picture of risk. According to a Morningstar study, a large majority of asset owners, including pensions, sovereign wealth funds, and insurers, believe that considering ESG is financially relevant to the investment process.

There are questions about whether Spence’s suit will succeed. However, the suit is significant because it concerns one of America’s largest pensions, takes aim at new federal guidance involving retirement plans, and may affect the plan’s self-directed brokerage account option, also known as the brokerage window. The brokerage window is the part of a plan that lets participants invest in funds and publicly traded securities outside the limited menu on offer. In 2021, the American Airlines plan brokerage window reportedly had 12% of the plan value.

In November, the U.S. Labor Department, which administers and enforces Erisa, finalized a rule that will remove barriers to ESG investing in retirement plans governed by the law. In the past, retirement plan fiduciaries were discouraged from considering ESG factors and from exercising shareholder rights.

“This might be the lawsuit to take on the new Erisa guidance,” says R. Paul Herman, CEO of California-based HIP Investor, an impact investing and ratings firm. Indeed, a separate lawsuit takes aim at three New York City pension funds over their divestments from fossil fuels. The plaintiff in the latter is represented by former Labor Secretary Eugene Scalia.

“Litigation is notoriously hard to predict, and it is tough to judge the strength of a suit just from the complaint,” says Michael Hadley, a partner at Davis & Harman specializing in Erisa and retirement issues. “But on its face, the lawsuit would seem to have a hard time succeeding.”

The lawsuit identifies 25 ESG mutual funds that it claims the defendants “have selected and included” in the plan, as well as some 90 investment managers that it claims pursue ESG objectives. Ironically, one of the advisors is the Timothy Plan, which describes itself as a “biblically responsible investor” and takes aim at ESG. Another advisor named in the suit is AQR Capital, whose founder Cliff Asness is a well-known critic of ESG.

These funds and managers were probably available through the self-directed brokerage account rather than as plan options, even though the complaint doesn’t explicitly say so. The complaint says the defendants “did not independently investigate these ESG funds before including them as investment options under the plan, did not independently monitor them once in the plan, and did not remove ESG funds from the plan.”

But this is the nature of the brokerage window. That’s why many retirement plans don’t offer them to participants and why a much smaller number of participants use them. What the brokerage window provides is a tool for the small number of participants who want to invest outside the plan options. “The irony is that the brokerage window gives you freedom of choice,” HIP Investor’s Herman says.

The suit also claims that ESG investments have underperformed the broader market over the past five years, but it doesn’t include benchmark returns or other data for comparison nor data about risk, which fiduciaries rely on.

“What’s concerning about this lawsuit if it goes anywhere, is it suggests there is some sort of fiduciary obligation to vet individual funds and individual securities available through a brokerage window,” Hadley says. Attorneys for the plaintiff didn’t respond to requests for comment.

Many large plans have been hesitant to move on ESG because of shifting guidance. This might make them even more reluctant.