Posted on: October 14th, 2022
Whilst we await publication of the SDR consultation paper, which we expect the FCA to publish shortly, you may find the article that I wrote for Investment Life and Pensions Moneyfacts a few days ago useful…
The full, final article is linked below.
Laying the foundations for sustainable investment 2.0
This article was originally intended to be about the FCA’s SDR (Sustainability Disclosure Requirements) consultation paper – the publication of which has now been delayed slightly. My next thought was to consider the meaning of ‘service’ – referencing the Queen’s extraordinary life.
It has since struck me that the two are not entirely disconnected – given that the FCA is charged with regulating a service industry.
I cannot comment on the upcoming consultation paper, as like everyone else, I have not seen it. But as a member of the FCA’s DLAG – Disclosure and Labels Advisory Group – and having worked in sustainable investment for nearly three decades – I am happy to share some thoughts on where I hope it will take us.
I have welcomed their work in this area because at the moment client ‘service’ in this area feels like a lottery. And also because the wellbeing of people, planet and financial markets are so inextricably connected that separating them is nonsense.
The FCA has been canvassing opinions on this for some time – both consulting within our industry and researching the opinions of thousands of ‘end clients’. It is important to give credit for this, particularly at a time when active listening is somewhat out of fashion. Their focus has largely been ‘how to meet client needs better’.
History and context
But to work out how to meet client needs better, we first need to take stock.
Life is certainly interesting these days – and we have had countless recent reminders of how interconnected we all are. Covid, the war in Ukraine, energy prices, food supply, inflation are striking examples. We can see that focusing more on climate can help with some of these – particularly energy prices. (If the recent performance of renewables is a sensible proxy the markets appear to be recognising this). We also know that not focusing on climate could swiftly exacerbate each of these problems.
Current events also remind us that every link in the chain matters. For sustainable investment that means regulators, manufacturers, data providers, intermediaries, distributors and clients. Again, the international nature of this cannot be ignored, which is why it is right that the FCA has been actively involved with IOSCO, IFRS and others.
Another issue is culture. Collectively financial services has made great strides – but there are still blind spots. We need to stop seeing sustainability is somehow ‘optional’ and embed it in all we do.
Looking back is also useful. Sustainable, responsible and ethical funds have existed for over three decades. Early funds were largely designed to meet the personal preferences of specific client cohorts. That changed in 2015 (post Paris). The established ‘modus operandi’ – became trampled underfoot in the battle for market share. Differences in opinion that might previously have been discussed intelligently – recognising clients’ diverse preferences and letting supply and demand to do its thing – gave way to shouty headlines, mudslinging and greenwash allegations.
We need to keep this in perspective of course. Any complex system that undergoes a significant transition should expect to hit the odd bump along the way, but now is the time for regulators to roll up their sleeves.
So what should we be looking to improve?
Sustainability may not be front of everyone’s mind right now, but sustainable funds have been and are being sold to people who care about issues like climate change. That makes ‘sustainability’ the one area where such funds cannot afford to risk misleading people – and relevant to regulators. (Some clients buy these funds for other reasons, such as performance – but their needs are more clearly covered by existing rules.)
Yet greenwash is not necessarily as simple as everyone thinks. It subdivides into ‘intentional’ (ie intent to mislead) and ‘unintentional’. The latter is, in my view, far more prevalent – overexuberance and the exaggeration of potential benefits and outcomes based on inadequate knowledge, experience or assumptions.
Greenwash allegations also emerge from differences in opinion – for example regarding the relative effectiveness of divestment versus stewardship. Again these are slightly naïve in my view as we rarely truly know what forces change in corporate strategies – so let’s do more of both.
It is also important that we stop grouping screened ethical funds, sustainable funds, environmental funds, social funds, ESG risk focused funds, tilted and engagement led funds together – implying they are the same. They are different. Always were. Always will be.
These nuances matter as they mean we can help clients to make better informed decisions by using certain words (‘labels’) more carefully and supplying better fund information (‘disclosure’), which is crucial. Indeed, that is why we built the ‘open to all’ Fund EcoMarket database 12 years ago.
Another challenge is data – which we need to admit is important and imperfect, potentially helpful and potentially misleading – particularly used out of context with clients. Analysts and ISA investors read numbers differently, but often face similar challenges. Carbon emissions data and fund ratings are examples. Is 102 good, bad or neither, is 3/5 okay? Does it matter where emissions come from – heating homes and hospitals, an airline, turbine manufacturer or flaring, scope 1, 2 or 3? Does geography matter? How can it be compared with peers? Is it part of a trend – going up or down?
And to be clear – I am not opposed to numbers, data or ratings. Quite the opposite. Measurement is crucial if we are to manage change effectively. But oversimplification misleads people, undermines trust and makes meeting client’s reasonable sustainability expectations a lottery. It also fuels criticism, some of which is now quite vicious.
Hans Rosling’s book ‘Factfulness’, makes a similar point about ‘lonely numbers’. Numbers that grab attention but lack context – and so are meaningless. It is a good read.
So, in the spirit of continual improvement, here are some areas we might like to refocus on:
Guardrails and disclosure not tick-boxes.
These are strange days indeed, but few things have surprised me more than the investment community’s desire for regulation in this area. In the context of what I have been describing I am very pleased that the FCA is now acting and by their approach. They have signalled a preference for ‘guardrails’ rather than granular rules.
The upcoming paper will apparently focus on client friendly labels – and improved fund disclosure – which also sound right. So you can expect to hear a lot more about objectives, policies, KPIs, resources and governance – which I appreciate not every client will want to read in detail!
These will nonetheless help form a more solid base for further welcome growth.
We need to be humble of course. There is no magic wand. We don’t have all the answers. But by showing that we understand and responding to clients’ hopes and concerns – and that a significant part of that involves working to help deliver the sustainable, safer future they want – we can regain trust.
We should also, over time, be able to demonstrate that we are helping to deliver progress because we take our clients hopes for the future seriously, which – to my mind – is precisely what our service sector is for.
Julia Dreblow, Director SRI Services, Founder Fund EcoMarket fund tool