The Financial Conduct Authority (FCA) is consulting on new disclosure requirements for asset managers focused on climate change.
In due course, it is expected that these disclosure requirements will be extended to cover other ESG topics.
In establishing these new disclosure regimes, a principal issue that managers face is precisely how these disclosures should be made.
As more guidance and templates emerge, ambiguity remains about how regulators expect firms to comply with these new obligations.
In the absence of clarity in how to make disclosures, one notable risk for firms is that they will be criticised or held liable for the statements made, whether by regulators or investors.
It is in this context that the FCA recently set out its Guiding Principles in order to assist firms in striking the right balance to making meaningful and clear disclosures which will satisfy a firm’s disclosure obligations.
The FCA cites three examples of behaviour which could be described as some form of “greenwashing”:
- A passive fund had an ESG-related name, even though it sought to track an index which was not itself ESG-focused, and exclusions from the index were only limited and based on “high-level” ESG criteria.
- A fund was stated to have a strategy to invest in companies contributing to “positive environmental impact”. The FCA found this misleading, however, since whilst the fund intended to invest in low carbon emissions reporting companies, the investments would not obviously contribute to the net-zero transition.
- Instances where it was difficult to reconcile the fund’s proposed investments with ESG-related statements. For example, one “sustainable investment” fund held two ‘high-carbon emissions’ energy companies in its top-10 holdings, and there was no obvious context or rationale behind it.
The Guiding Principles
Underpinning the FCA’s Guiding Principles is the theme of consistency. In particular, the “fund’s focus on ESG/sustainability should be reflected consistently in its name, stated objectives, its documented investment policy and strategy, and its holdings”. The three Guiding Principles are summarised below:
Principle 1: The design of responsible or sustainable investment funds and disclosure of key design elements in fund documentation
- Fund name: It is already a general rule that fund names should not be misleading. In particular, however, the FCA notes that using ‘ESG’, ‘green’, ‘sustainable’, ‘responsible’, ‘ethical’, ‘impact’ and any related terms are likely now be viewed as misleading if the fund does not pursue ESG/sustainability substantively and materially in its objectives, policies and strategy.
- Investment objectives and policy: Where the fund claims to pursue ESG/sustainability characteristics, this should be indicated—and therefore followed—as part of the fund’s investment objectives and policy in the fund documentation.
- Investment strategy: Where the fund claims to pursue ESG/sustainability characteristics, the FCA expects details about the strategy followed to pursue these features in the fund documentation, including any limitations/thresholds relating to particular types of investment, any screening criteria used, specific ESG objectives pursued, the application of benchmarks or indices and the stewardship approach of the fund.
- Stewardship approach: Where a firm’s investment strategy uses investor stewardship to promote ESG/sustainability features, the FCA expects that a firm will have an engagement policy setting this out.
Principle 2: The delivery of ESG investment funds and ongoing monitoring of holdings
- Resources to support delivery: A fund’s ESG aims must be reasonably capable of being achieved, given the resources applied. The resources should be considered broadly, including investment professionals with appropriate skills and experience, technological inputs and ESG/sustainability-specific research, data and analytic tools.
- Data, research and analytic tools: The firm should employ appropriate resources to oversee the use of research, data and analytic tools, including conducting due diligence on any data relied upon to be confident that the firm is able to validate any ESG/sustainability claims that it makes.
- Holdings: The firm should take into account whether a reasonable investor would consider that the fund’s actual holdings reflect any ESG/sustainability characteristics, themes or outcomes that have been disclosed or any claims made.
Principle 3: Pre-contractual and ongoing periodic disclosures on responsible or sustainable investment funds should be easily available to consumers and contain information that helps them make investment decisions
- Easy availability: Firms should take appropriate steps to ensure that investors have suitable access to ESG/sustainability-related information. This may be especially important where the firm relies on third-party data or analytical tools.
- Pre-contractual disclosures: The ESG/sustainability factors should be made available in relevant regulatory documents and reflected in any accompanying marketing materials in a clear, fair and not misleading way.
- Ongoing performance reporting: Firms should take appropriate steps to make information available on how well the fund is meeting its stated objectives on an ongoing basis.