ESG Funds May Not Meet Sustainability Rules
Proposed legislation regarding non-financial disclosures and the naming of ESG funds lacks standardisation across the US, UK, and Europe. This will make it difficult for many funds that claim to be "sustainable" to adhere to the regulations.
An analysis of over 18,000 investment funds across Europe conducted by Clarity AI, a technology platform, has revealed that less than 4% of these funds would meet the naming laws for environmental, social, and governance (ESG) funds across key markets.
The study indicates that many of these funds would require renaming or restructuring if they intended to sell across the US, UK, and Europe, all of which have varying definitions and naming regulations for sustainability funds and non-financial disclosures.
Patricia Pina, the Head of Product Research and Innovation at Clarity AI, explained that funds with the word “sustainable” or similar terms, which belong to all three investment fund regimes, would need renaming or restructuring for them to be sold across all three markets. She also pointed out that the differences in how regulators interpret concepts such as ESG and sustainability are a significant cost of compliance.
In November 2022, the European Securities and Markets Authority (ESMA) initiated a consultation to set minimum thresholds on Article 8, which applies to “light green” funds that use ESG-related terms in their names.
ESMA suggested that these funds should ensure that 100% of the assets in each portfolio adhere to minimum safeguard thresholds aligned with the Paris Agreement. Additionally, it suggested that 80% of assets should be used to meet ESG-related characteristics, and 50% should be defined as sustainable under the Sustainable Finance Disclosure Regulation (SFDR).
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Clarity AI’s study discovered that only 20% of Article 8 funds using the term “sustainable” had plans to comply with the recommendations of the consultation. The research suggests that the recommendations proposed by ESMA would not align closely with investing proposals in the UK or US.
Pina explained that this lack of standardisation in naming laws is not just an added compliance cost; it also underlines how different actors, in this case, regulators, interpret the meaning of core concepts such as ESG and sustainability.
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