The SFDR regulation: instructions for use (part 4)

The SFDR regulation suffers from a lack of clarity in its articulation with the European and national regulatory framework and from the risks of ESG-washing.

1. The Taxonomy Regulation

In addition to deciphering and appropriating the Disclosure Regulation, companies in the financial sector are also subject to the Taxonomy Regulation since the beginning of 2022. Fund managers will therefore not only have to comply with the provisions of the Taxonomy Regulation but also with the disclosure requirements of the SFDR Regulation on the taxonomy alignment of their Article 8 Plus and Article 9 funds. Despite some clarifications in the European Commission and ESAs’ FAQs, market participants deplore the confusing nature of the articulation of the regulatory initiatives of the Sustainable Finance Action Plan.

2. The French Energy and Climate Law

In France, the law on energy and climate enacted in 2019 and its implementing decree reinforce the transparency obligations of the Article 173 report and go even further than those imposed by the SFDR. Thus, French financial sector actors must add to the sustainability risk policy required by Disclosure a point on the risks associated with climate change and biodiversity.

3. The doctrine on investor information

Similarly, the doctrine on investor information published by the Autorité des marchés financiers (AMF) in March 2020 requires any fund mentioning ESG in its marketing documentation, regulatory documentation or name to comply with precise criteria and measurable and significant objectives. The AMF identifies three types of ESG approaches: “significant commitment in management”, “non significant commitment in management” and “other approaches”. These categories are more prescriptive in some respects, but do not correspond to the Article 6, Article 8 and Article 9 classifications of the Disclosure Regulation.

• The overlapping set of regulations related to sustainable finance will certainly contribute to better ESG transparency in the financial sector. However, the end investor is faced with an increasing amount of information on the sustainability impacts of investments and the level of ESG selectivity. Adopted in 2014 by the European Commission, the Markets in Financial Instruments Directive (MIFID 2) requires, since January 2018, that asset management companies take into account the ESG preferences of their clients when determining their target market as well as in the process of matching the investment service offered to the client. In this respect, a dedicated questionnaire must be used by managers to assess the ESG preferences of their clients.

• The disparity of methodologies for evaluating and interpreting ESG criteria contributes to the confusion: several financial products may claim to have the same regulatory classification but produce different figures. Some stakeholders also question the legitimacy of responsible investment labels: if all funds must now demonstrate a regulatory ESG classification, is there still any added value in obtaining an additional ESG label? This multitude of data, categories and labels is likely to facilitate the use of greenwashing and ESG-washing.

• Morningstar’s initial analysis following the implementation of Disclosure also highlights the risk of greenwashing associated with the freedom given to asset managers on the methodology by which they measure the sustainability of their portfolio. Morningstar notes in 2021 that the very different interpretations of the SFDR requirements by managers result in “similar strategies” in the Article 8 and Article 9 categories, and that a “wide range” of ESG approaches are represented in each. In particular, the firm drew investors’ attention to the fact that 27% of Article 9 funds had more than 1% exposure to companies deriving more than 5% of their revenues from thermal coal, compared to 19% of Article 8 funds and 22% of unclassified funds . A year later, many managers are downgrading their fund classification in the run-up to the RTS, which apply a stricter definition of Article 9 funds. In the third quarter of 2022, while 342 funds saw their SFDR classification improve, 41 funds were downgraded from Article 9 to Article 8.

Notes and references

[1] LOI no 2019-1147 du 8 novembre 2019 relative à l’énergie et au climat, Journal Officiel

[2] Position – Recommendation DOC-2020-03, AMF

[3] « ESG funds blurred lines persist despite SFDR », ESG Investor

[4] « Article 8 funds shed another €287bn », Morningstar

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