In an era of ethical financial decisions, how green is your fund?

New disclosure and other regulations from the EU will make it easier for investors to sort out sustainable or green investment funds from those that do not prioritise environmental, social or governance (ESG) factors.

The EU has set out a strategic objective to put sustainability at the centre of the financial system and is using a range of different regulatory tools to achieve this.

These changes will affect all stakeholders in the financial system, from asset managers to financial intermediaries.

"While many of these changes were largely under way in any event, the regulatory direction has really triggered a notable acceleration in the adoption of, and transition to, more sustainable investment models across the board and this pace of change is only set to continue," said Sandra Rockett, director wealth and corporate distribution, Irish Life Investment Managers.

“To date, we have seen two major pieces of regulation coming into force which are largely orientated towards enhancing the consideration of sustainability risks in investment decision making and enhancing the transparency of responsible investment practices from an asset owner’s or asset manager’s perspective,” she added.

The main piece of new legislation, and the one most far reaching from an investor’s perspective, is the Sustainable Finance Disclosure Regulations (SFDR) which came into force in March 2021. The outcome of this regulation for customers is that they will be able to compare options easily and make informed decisions on how they invest their money, said Rockett.

Under SFDR, investment funds need to be categorised into one of three categories: those that do not take any account of sustainability; those that take account of sustainability alongside other factors like risk and return; and those that have sustainability as a core objective of the fund.

This legislation is “standardising the disclosure requirements,” said Richard Kelly, head of client business at LGIM.

"Not every fund has to be sustainable, but it's about defining which ones are and which ones aren't so investors have a choice. We've seen a meteoric rise in interest in green funds. And as part of SFDR, we, as asset managers, have to disclose within the fund whether or not it is sustainable. This is regulated by [THE]Central Bank of Ireland. It has to be in all the documentation but it's also on our website. Investors can see if the fund meets their criteria," he said.

SFDR is supported by a number of other regulations, most prominently, the EU taxonomy regulation. This came into force in July last year and will introduce criteria for identifying sustainable economic activities.

“It will allow investments that address issues of sustainability, such as climate-change mitigation and adaptation, to be more easily identified so that investment can be directed towards them. Looking forward, proposed changes to MiFID II suitability rules will require advisers to incorporate clients’ sustainability preferences when recommending products that are suitable for the client. Regulation on sustainable finance is empowering investors to understand the impact of their investment decisions in order to make more informed choices,” said Carolina Angorita of Cantor.

Many firms have increased their sustainably managed assets. Within Irish Life, they have seen their sustainably managed assets increase by more than 46 per cent since 2019 to a total of more than €25 billion today.

“As new regulations such as SFDR take effect over 2021, our experience to date is that they are triggering really positive engagement, a strong appetite for information and better choices from our customers and institutional clients and partners,” said Rockett.

Considerable investment

The year 2020 marked the 20th anniversary of the Green Effects Fund launch. This was set up as a response to the demand for a more ethical and socially responsible investment approach and for clients who wanted to make a difference with their investment portfolios. Over the last 18 months Cantor has seen considerable investment flows into the fund, particularly from Irish investors. They regularly publish their own ratings.

“We regularly publish quarterly MSCI ratings that are specifically focused around the whole area of industry recognised ESG ratings. These are [a] good benchmark for investors to compare the fund against the broader equity market or peer funds across a number of specific areas like carbon emissions risk and intensity, reputational risk and governance risk,” said Richard Power of Cantor.

Meanwhile, delays in finalising the detailed regulatory technical standards that were to accompany SFDR (the Level 2 measures), the disclosure requirements which applied from March 10th, 2020, were high level and principles-based, said Tara Doyle, partner and head of asset management department, at Matheson.

“The more detailed disclosure rules have been postponed, most likely until January 1st, 2022. In addition, the very tight timeframe for compliance meant that the regulators across the EU, including the Central Bank of Ireland, implemented fast-track procedures for funds to make their filings. This means that the disclosures have not yet been subject to full regulatory scrutiny,” she said.

“The format the European Supervisory Authorities have proposed for the Level 2 disclosures will provide for a high degree of standardised presentation of information, which should enable investors to compare the green credentials of different investment funds more readily than current disclosure documents allow.

However, it is important to understand that this is an evolving landscape and crucially the ESG data that managers need to comply with the detailed Level 2 measures is not yet readily available. The EU is pursuing parallel initiatives (including the non-financial disclosures regulation) to improve the availability and quality of this information from European issuers. The challenge of obtaining this information from global issuers is one that requires a more concerted global effort,” she added.