- ESMA publishes guidelines on sustainability claims in funds’ names on funds’ names using ESG or sustainability-related terms
In the apparently almost never-ending battle against greenwashing, the European Securities and Markets Authority (ESMA) set a next step by publishing, on 21 August 2024, its new guidelines on funds’ names using ESG or sustainability-related terms (the Guidelines).
The Guidelines have now been translated into all official languages of the member states of the European Union. It is said to be the first time that a regulator prescribes labels: until now, all European Union regulations were merely disclosure regulations rather than rule-based regulations. In the UK, there are the “Sustainability Disclosure Requirements” which are, as the explanatory notes thereto say to build “on global best practice and leading standards, supporting the UK’s ambition to become the world’s first Net Zero Aligned Financial Centre”. Relevant market parties and all European Union regulators must make every effort to comply with the terms of the Guidelines and regulators must incorporate the Guidelines into their supervisory framework.
The Guidelines have the purpose to ensure that fund investors will be protected against “unsubstantiated or exaggerated” sustainability claims in names of the funds and the Guidelines give the asset managers clear guidance on the criteria they need to apply to legitimately used terms relating to “sustainability” or “ESG” in fund names. It has been said before, in relation to greenwashing in general, that fund names do not always adequately cover the actual activities of the fund and that in certain cases, the fund operates less green and/or sustainable than its name would suggest.
The Guidelines take effect on 21 November 2024; for funds in existence on that date, there is a transitional period of six months to adjust funds’ names in accordance with the Guidelines. New funds, started after 21 November 2024, must apply the Guidelines right away. The guidelines have a broad scope and apply to UCITS and AIFs (which includes all types of AIFs such as EuVeCAs, EuSEFs, ELTIFs and MMF).
What do the Guidelines say?
The Guidelines purport to show the circumstances under which the use of specific terms in funds’ names can be unfair, misleading or unclear.
The Guidelines distinguish certain terms that are frequently used with funds, such as “transition” “environmental”, “social”, “governance” “impact” and “sustainability”. An extract of the rules as set forth below:
Funds that use terms related to “transition” “social” and/or “governance” (which includes terms like “improve”, “net-zero” “equality”, “controversies” and the like) must meet an 80% threshold linked to the proportion of investments used to meet environmental or social characteristic or sustainable investment objectives in accordance with the binding elements of such fund’s investment strategy (to be disclosed) and must exclude (partly) investments in companies mentioned in the EU Paris-aligned Benchmarks as set forth in article 12(i)(a) to (c) of the Commission Delegated Regulation (EU) 2020/1818, which means exclusions for inter alia investments in companies involved in activities related to controversial weapons, the cultivation and production of tobacco and companies that benchmark administrators find in violation of the UNCG and OECD guidelines for Multinational Enterprises.
Funds that use terms related to “environmental” or “impact” (which includes terms like “green” “climate” and the like) must meet an 80% threshold linked to the proportion of investments used to meet environmental or social characteristic or sustainable investment objectives in accordance with the binding elements of such fund’s investment strategy (to be disclosed) and should also exclude investments as referred to in the Paris-aligned Benchmarks, inter alia, in relation to companies engaged in fossil fuels and mining.
Funds using “sustainability” terms must meet an 80% threshold linked to the proportion of investments used to meet environmental or social characteristic or sustainable investment objectives in accordance with the binding elements of the investment strategy, exclusive of investments as referred to in the Paris-aligned Benchmarks and, on top of that, should commit “to invest meaningfully” in sustainable investments as referred to in article 2(17) of the SFDR, being inter alia investments related to renewable energy, biodiversity, social cohesion and integration (provided that such investments don’t do significant harm any of the objectives).
Where fund’s names do include combinations of the above terms, then in principle, the requirements apply cumulatively.
Supervisory tasks
ESMA stresses that the supervisory authorities consider the rules set forth in the Regulation throughout the life of a fund. Funds’ investors can verify all information through mandatory periodic disclosures. Temporary deviations from the thresholds set forth in the Regulation should be considered as a “passive breach” and are eligible for correction, unless such deviation has been made deliberately by the fund manager.
Conclusion
There seems to be a proliferation in the use of funds’ names relating to “sustainability” and “green”. It is of course, from a marketing perspective, tempting to exaggerate one’s actual efforts. Apparently however, currently not all investments are covered by the names as disclosed to the public and investors. The Regulation provides rules on this and, although supervisory authorities may incur more work, at least it is clear which standards they should apply. It will be interesting to monitor the use of funds’ names and to see whether managers will actually drop their “sustainable” labels following the rules of the Regulation coming into effect.
Pinsent Masons is a member of the Investment Officer expert panel. Jan Saalfrank is an investment funds partner at Pinsent Masons Luxembourg. Lous Vervuurt is a lawyer at Pinsent Masons Netherlands and advises clients on financial regulation and anti-money laundering compliance.