U.K. Fund Managers Face More ESG Red Tape With New Proposal

(Bloomberg) -- Asset managers in the U.K. may be facing more rules dictating how to classify environmental, social and governance investments than their peers in the European Union, creating extra red tape for firms that do business in both jurisdictions.

The U.K.’s Financial Conduct Authority released a consultation paper on Wednesday outlining an initial approach for how asset managers should label ESG products. It includes five categories, compared with three currently in the EU’s Sustainable Finance Disclosure Regulation. Notably, the U.K. wants a category for transition funds, to cover assets issued by companies that pollute now but say they won’t in the future. 

If the proposal goes through, it will mean more paperwork for asset managers who are required to declare product classifications under the two different regimes. The EU’s system has already caused major upheaval in the global asset management industry, as firms outside the region with European clients are forced to adhere. 

What Does BNEF Say.....

“At a time when many nations are sorely lacking in ambition when it comes to developing climate-risk disclosure rules, the U.K. could follow the European Union’s lead and become one of the few countries to tackle this issue seriously. However, the creation of new rules without strong international standardisation could give rise to additional disclosure burdens for financial market participants, who will have to navigate numerous disclosure regimes if they operate across several jurisdictions.”

--Maia Godemer of BloombergNEF

--Click here for the full report 

“We recognize that in some respects the U.K. regime may require more information than SFDR, such as product-level metrics,” the discussion paper said. The FCA is seeking views “on the extent to which we can remain as consistent as possible with SFDR, while reflecting the needs of the U.K. market.”

Regulators everywhere are keen to impose rules to fight greenwashing, after the ESG market ballooned to more than $35 trillion last year. The EU set the tone in March, when it enforced SFDR. The disclosure regulation is intended to protect investors from overblown or false claims of environmental and social benefits by requiring asset managers to document their ESG figures. 

But as different jurisdictions come up with their own rulebooks, ESG investors and fund managers are having to navigate an increasingly complex market. The U.K. has said it wants to position itself as a leader in green finance, and is developing its own Green Taxonomy to define which investments are environmentally sustainable. That may also diverge from the equivalent piece of regulation in the EU, according to the head of the expert panel advising the U.K. government. Such a scenario would create multiple data-reporting requirements for firms that do business in the U.K. and the EU. 

The EU’s SFDR is already creating anxiety among fund managers amid confusion over what constitutes a light green (Article 8) or dark green (Article 9) investment under the regulation. European supervisors plan to introduce minimum standards for light green products, and will review SFDR next year to determine whether more guidance is needed around marketing material.

The U.K.’s fund classification rules split up Article 8 and 9 funds with two further sub-categories. One of these reflects impact investing, which looks to generate measurable social and environmental impacts alongside a financial return. 

The other would mean that funds targeting transition investments wouldn’t need to have a high proportion of underlying assets that meet sustainability criteria. The expectation is that the ratio would rise over time through investor engagement, the FCA said. 

But there’s a risk that giving transition assets too much credit within ESG labeling could slow down efforts to decarbonize the economy.

“The integration of ‘transitioning’ funds could foster more inertia from the market,” said Maia Godemer, a sustainable finance associate at BloombergNEF. “As we are already witnessing in the EU, initially very few funds will actually have a high percentage of sustainable investments, so this additional category allows them to get sustainability credentials without having to integrate more sustainable investments.”

The rules for asset managers are part of the U.K.’s broader push against greenwashing, which also targets corporate disclosures. Responses to the FCA’s discussion paper are due by 7 Jan. and will feed into policy proposals for consultation in the second quarter of next year. It also asked for views on: 

• The role of derivatives, short-selling and securities lending in sustainable investing
• How to define impact investing
• How best to present sustainability-related information to different audiences, such as retail consumers and institutional investors

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