What the FCA focus on stewardship and sustainability really means

IA's Woodfield digs into the regulator's 'Dear Chair' letter

The Financial Conduct Authority’s (FCA) focus is ramping up and it will be focusing on ESG integration, how sustainable strategies are implemented and stewardship.

In July, the regulator published a ‘Dear Chair’ letter, to the chairs of authorised fund managers (AFMs) on improving the quality and clarity of ESG and sustainable investment funds.

In a bid to deter and prevent greenwashing, it sets the tone for much closer scrutiny of sustainability claims by the industry from the FCA in fund authorisation and supervision.

The letter warns firms about the impact of poor-quality disclosures on consumers and sets out a number of guiding principles to support AFMs to develop reliable disclosures on the sustainability characteristics of their funds. This is an important digest for senior managers, compliance departments and investment professionals alike.

It is important to stress this not the UK’s answer to Sustainable Finance Disclosure Regulation. In lieu of targeted regulation in this space, the FCA’s letter looks at the existing rules and sets them in the context of sustainability disclosures, an important interim step as we await the Treasury’s development of the sustainable disclosure regulation and the UK’s own green taxonomy. 

Letter takeaways

One important takeaway is the distinction between funds that apply ESG integration as a matter of course in their investment processes and those that are explicitly pursuing sustainability or ESG characteristics, themes or outcomes. These principles are targeting the latter in an attempt to deter over-inflation of the wider benefits of funds to society and environment where ‘risk management’ might be a more appropriate description.

Another is the focus not just on how funds are ensuring investment objectives and strategy match their marketing material but a rigorous focus on how and whether funds resources and portfolio holdings live up to any sustainability claims – the implementation of the sustainability strategy must be consistent with these claims.

One distinct theme that might not jump out at first glance is the increasing focus on stewardship as a tool to pursue sustainability objectives.


A potential shift in the FCA’s regulatory approach to stewardship has been on the horizon since 2019, when the FCA started looking much more closely at the role of stewardship in green finance and how to ensure an effective regulatory environment for stewardship, warning that they would look at further action unless market improvements were made in a number of areas. This is echoed in their recently published business plan with a fresh focus on the role of stewardship to promote sustainability outcomes – committing to look at further regulatory action “if there is insufficient evidence of active stewardship to advance environmental and social goals”.

Historically, the FCA’s approach has been to promote the FRC’s Stewardship Code, requiring firms to explain their compliance with the Stewardship Code or an alternative investment strategy. Firms have to set out policies and provide evidence of how they have implemented stewardship at the firm level. This approach is broadly reflects how firms operate, using the aggregate voice of holdings across different funds to maximise influence and manage risks with investee companies through engagement and voting. The FCA is also responsible for implementing the Shareholder Rights Directive II, which mirrors this firm level view of stewardship.

However, the ask within the Dear Chair letter goes further, with the principles indicating that firms should be carefully considering and demonstrating their fund level approach to stewardship and the use of stewardship activities to support and implement particular sustainable investment strategies. There is a significant focus on the role of stewardship in supporting a sustainable transition, through engaging with investee companies to manage the risks from climate change to supporting a fund to achieve “positive environmental change”.

This is particularly important in the context of being able to explain why certain holdings are present in particular sustainability strategies and how stewardship can be used to achieve a positive impact. 

Finally, there is an expectation that funds are articulate about how their stewardship escalation strategy, the combined role of exclusion and engagement can be used to support sustainability characteristics of funds.  

This shift may be seen as a natural extension of the integration of stewardship into the investment process. The FRC’s Stewardship Code places significant value on the systematic integration of stewardship across and within different products and asset classes.

Indeed, institutional clients have long been concerned not just about their fund managers’ firm level stewardship approach, but what this means explicitly for their portfolios.

It is a necessary challenge for firms to communicate how they are working with investee companies to support them to transition their business model to more sustainable practices. Firms will also need to open the bonnet on their decision-making process – when should engagement and exercising shareholder voting rights be used to escalate concerns and when might divestment be in the clients’ best interests where the company is not responding to these concerns? It is clear the FCA will be looking closely at stewardship when examining the sustainability claims of funds.

Sarah Woodfield is stewardship and corporate governance manager at the Investment Association and an ESG Clarity editorial panellist.


Natasha Turner

Natasha was global editor at ESG Clarity, part of Mark Allen Financial, and a financial journalist for seven years. She has been shortlisted for Story of the Year and Investment Journalist of the Year...