Germany’s Tough Green-Washing Stance Could Shape EU Fund Rules

Germany’s financial markets watchdog says tough regulations it’s preparing to prevent green-washing in investment funds will help shape the next chapter of Europe’s efforts to make capitalism more sustainable.

“Germany’s rules will probably be a good step toward forming European ones,” Thorsten Poetzsch, BaFin’s head of securities supervision, said in an interview. “I think we’ll see a European draft on this sooner or later.”

The investment industry is undergoing a historic pivot as retail and institutional investors seek to have their cash used to support the fight against climate change and social injustice, while moving away from firms seen as hurting those goals. Money managers are touting the sustainability of their portfolios, but the absence of clear definitions has opened that trend to abuse and uncertainty around products.

Germany’s Tough Green-Washing Stance Could Shape EU Fund Rules

German investment firms managed 361 billion euros ($422 billion) in sustainable funds, or 10% of the country’s total fund market, at the end of June, according to BVI, the industry’s lobby group.

“We’ve found several funds where the terms are so vague that you can’t be sure they’re sustainable,” said Poetzsch.

One example: a fund that says 75% of its assets are in convertible bonds and selected according to ecological, ethical and governance criteria. He said the descriptions were too general and needed more detail on how assets are chosen. Another asset manager simply described sustainability as “seeking long-term commercial success while considering ESG principles.” That, Poetzsch said, “is too soft and it could mean anything.”

Higher Bar

He declined to comment on a Wall Street Journal report earlier this month that Deutsche Bank AG’s asset management unit, DWS, overstated its environmental, social and governance credentials. “But you can assume that we take a closer look at situations that could be unusual and examine whether there were signs of irregularities,” he said. DWS has said the allegations aren’t based on substance.

The European Union implemented new disclosure standards this year that oblige fund managers to publish data on the volume of funds that are green or incorporate aspects of sustainable investing. Those rules will be expanded next year, but they don’t define what can be called an ESG fund.

While BaFin isn’t the first national regulator in Europe to set rules for when investments can be labeled as sustainable, it is setting a higher bar in some regards than authorities in other countries on the designation. The German regulator’s planned rules call for a minimum 75% threshold for assets that help reach ESG goals, which is tougher than in other countries that use scoring systems or qualitative requirements.

Key points of BaFin’s planned sustainability directive for funds available to the public:
At least 75% of investment should be in assets that help reach ESG goals
Alternatively, funds can have sustainable investment strategy or follow relevant index
Caps on certain assets, such as limiting those related to fossil fuels at 10%

BaFin’s planned rules use the EU’s definition of sustainability as contributing to environmental or social objectives. The former includes making more efficient use of energy and raw materials as well as reducing waste and carbon emissions. The latter refers to tackling inequality, fostering social cohesion and labor relations as well as investments in human capital or economically or socially disadvantaged communities.

The industry has until Sept. 6 to submit feedback on BaFin’s plans. Germany’s fund industry lobby has said the threshold for ESG assets is so high that asset managers may opt to start sustainable funds in Luxembourg rather than Germany.

“We want to create as high a quality of supervision as possible,” said Poetzsch. “We’re also creating something that could be an advantage when marketing these funds.”

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