Earlier this week, the Financial Conduct Authority (FCA), which is the regulator for financial services firms and financial markets in the UK, released its new Sustainability Disclosure Requirements (SDR) for asset managers. This new requirement joins those in the EU and the USA, such as the SFDR and the enhanced SEC ‘Name Rule’, which seek to eliminate greenwashing risk.
The new FCA rule requires that all communications by FCA-authorized firms about the environmental or social elements of products and services ensure that claims are “consistent with the sustainability profile of the product or service”.
In an attempt to help firms interpret the concept of ‘consistency’, and to assist consumers differentiate among the growing universe of sustainability-oriented financial products and services, the FCA has introduced four new labels for investment products, including:
- Sustainability Focus: Products that aim to invest in assets that are environmentally and socially sustainable.
- Sustainability Improvers: Products that invest in assets that have potential to improve environmental or social sustainability over time.
- Sustainability Impact: Products that invest in assets with an aim to achieve a predefined environmental or social sustainability objective.
- Sustainability Mixed Goals: Products that invest across varying environmental and social sustainability objectives aligned with other categories.
Label selection is not absolute as any labeled product should aim to have a minimum of 70% of assets aligned with the label’s objective.
What I really like about this new rule is that it finally cuts through the smoke and mirrors circus bedraggling the ESG / Impact relationship. Looking at these four labels, it is clear all would apply to financial products which integrate ESG data into the asset allocation decision-making process, but only one of them--Sustainability Impact--promises to put “doing good” front and center.
These four labels really boil down to only two options: 1) A financial priority with an interest in sustainability or 2) A sustainable priority through financial channels. The Focus, Improvers, and Mixed Goals labels conform to the former while the Impact label conforms to the latter. Finally, products can integrate ESG as they see fit and not need to try to be everything to everybody all the time.
Key Implications
The new FCA rule concerning greenwashing is not critical to private equity firms and their portfolio companies. The real key beneficiaries of this rule are the retail investors who have trouble making sense of sustainability-claims of the various Green- and Impact-themed ETFs, mutual funds, and financial advisory services which have grown exponentially of late.
Even so, this rule does lay some ground-work which private equity firms and portfolio companies can benefit from over time. The labels presented in this rule mark a clear delineation between investments which integrate ESG data in the decision-making process and investments which optimize for impact.
The delineation allows actors to engage in ESG without being required to engage in Impact. This is a significant step as the politicization of ESG in the USA is largely fuelled by a confounding of ESG with Impact. Now, the FCA labels can be pointed to when your financially-material ESG efforts are mis-characterized as “distracting do-goodery”...and thankfully, the FCA labels are much easier to make sense of then are the SFDR Articles.