SRI Services welcomes FCA’s landmark SDR consultation.

SRI Services are delighted to welcome the publication of the FCA’s new Sustainability Disclosure Requirements (SDR) and Investment Labels consultation paper.

This paper, CP 22/20, marks a major – and highly positive – turning point for retail sustainable investment.

It puts clients’ needs front and centre and in so doing tackles greenwash and trust issues head on.

It is a lengthy paper (179 pages) and may take a little while to digest (although the last 70 or so pages are annexes).  However its content appears to be very much in line with what we discussed in DLAG – the FCA’s Disclosure and Labels Advisory Group – and what I had hoped to see.

Although it does not map precisely to other systems (eg SFDR)  the consultation references them extensively as the FCA has been keen to compliment other regimes.  Precise mapping would however have been impossible as the focus of this paper is different.  Unlike elsewhere – the SDR consultation prioritises clients – not the investment ‘industry’.

It’s core purpose is to ensure that when clients are considering a sustainable investment fund they can trust what they see.  The result, these proposals, have been informed by extensive consultation both across our industry and with clients and my sense is that the proposals will work (perhaps with the odd tweak).

The mechanisms they have chosen are, as indicated in the DP last year, a combination of labelling and requiring funds to say (and prove) what they do – from a sustainability perspective.

The paper proposes three sustainable fund labels – describing different sustainable fund approaches.

The labels are:

• ‘Sustainable Focus’ for funds that invest in assets (equities, bonds etc) that are widely regarded as already sustainable.
• ‘Sustainable Improvers‘ for funds that aim to encourage positive progress – often through engagement (stewardship) activity.
• ‘Sustainable Impact’ for funds with a significant emphasis on delivering measurable real world progress.

Funds that do not meet these criteria will no longer be able to be called ‘sustainable’ as this – and other terms – will become protected.  (There is a section in the paper on naming and marketing).

Some thoughts from SRI Services founder, DLAG member,  Julia Dreblow:

“SRI Services is delighted to welcome this paper.  Its significance must not be underestimated in terms of its importance to financial services and beyond.

The line between what we once called ‘sustainable’ or ‘ethical’ funds and other funds has become blurred in recent years as ESG risks have become more urgent and more often integrated into many strategies.

Although welcome, this has confused clients and eroded trust.  If no action were taken to clarify what can and can not be called ‘sustainable’ we would most likely see a significant escalation in greenwash allegations, a further erosion of trust and investors’ ability to help address issues like climate change would be hindered. 

The recent ‘free for all’ – has made it incredibly difficult for intermediaries and end clients to know whether or not a fund really takes sustainability challenges seriously.  People need to be able to see what a fund is for  – which the FCA refers to in the paper as ‘intentionality’ – and how it approaches sustainability issues.  These will be dealt with through a combination of labels and disclosures that will require funds to set sustainability objectives, and articulate their policies/strategies, set KPI’s and publish information on governance, resourcing and (entity level) stewardship activity.   Collectively these will enable intermediaries to match funds to clients’ personal preferences far more effectively. “

Funds that focus on sustainability will be required to align to a high level sustainability label, set out their sustainability aims and objectives and prove that they do what they have promised.  Other funds won’t be allowed to use the proposed labels.

“This proposed combination is, in my view, a sensible, pragmatic approach.  It reflects what many leading funds already do – as many fund entries on our Fund EcoMarket database demonstrate – and because the focus is explaining to clients what a fund does there is no need for this to be overly technical. 

One label that is likely to attract attention, hopefully positively in due course, is the ‘improver’ category. 

The ‘stock selection vs engagement’ dynamic has caused much upset over recent years with funds that invest in major polluters surprising clients and being accused of greenwash.  By bringing this to the fore the FCA is striking a balance between encouraging quality stewardship (engagement) and making sure clients reasonable expectations are met. People who support these funds should expect them to hold controversial stocks, and expect managers to explain and report on the role they are playing in helping these companies to transition to sustainable practices. 

Clients who do not want to invest in controversial companies will now find it easier to recognise and avoid funds that focus significantly on engagement. They will be able to choose between the ‘sustainable focus’ and ‘sustainable impact’ fund labels.  The main difference between these will be funds that invest in assets are broadly already seen as sustainable (subject to a potentially controversial 70% rule) – and funds that focus on ‘solutions companies’ and measure real world outcomes (which is not easy).  The crossover between these three will be dealt with via the disclosure requirements.”

The paper also considers other aspects of the wider landscape…

“Of note, and to be welcomed, is the proposal for an ‘anti greenwashing’ rule – putting sustainability on a solid ‘clear, fair and not misleading’ footing. 

As well as misleading people – and undermining trust – greenwashing is distorting markets and hampering our ability to deal with existential threats.  It must be stamped out in all industries and regulators are the only entities that can make this happen.

The specific references to distributors, including advisers and platforms is also  welcome.   All parts of the investment chain need to be involved if we are to meet client needs more effectively.    We know that many clients care about issues like climate change.  They must be given the option to invest in line with their opinions, be ‘part of the solution’ and not fear being mislead. 

This is a hugely important and very good day for our industry!”

View FCA press release and consultation paper here: https://www.fca.org.uk/news/press-releases/fca-proposes-new-rules-tackle-greenwashing

The consultation period will run until 25 January 2023.

The FCA’s client research can be found here.

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The following excerpts from the FCA’s CP may be helpful:

p5 – ‘What we want to change’

1.22 Our proposals cover the following main areas:

• Sustainable investment labels to help consumers navigate the investment
product landscape and enhance consumer trust.

• Consumer‑facing disclosures to help consumers understand the key
sustainability-related features of a product.

• Detailed disclosures targeted at a wider audience (eg institutional investors and
consumers seeking more information):

• – pre‑contractual disclosures (eg in the fund prospectus), covering the
  sustainability-related features of investment products
  – ongoing sustainability‑related performance information including key
  sustainability-related performance indicators and metrics, in a sustainability
  product report
  – a sustainability entity report covering how firms are managing
  sustainability-related risks and opportunities

• Naming and marketing rules restricting the use of certain sustainability-related
terms in product names and marketing materials unless the product uses a
sustainable investment label.

• Requirements for distributors to ensure that product-level information (including
the labels) is made available to consumers

• A general ‘anti‑greenwashing’ rule applied to all regulated firms which reiterates
existing rules to clarify that sustainability-related claims must be clear, fair and not
misleading

Further reference pages (draft).

p7 1.31 causal chain

p17 – 23 – overview

p23-50 – classifications and labels

p 49 4.80 mapping of existing funds

p51-72 disclosures

p57 5.38 content

p67 5.83 entity level disclosures

p73 naming and marketing

p77  7.8 distributors (display fm allocated labels only)

p78 8 next steps

p81 8.19 financial advisers (separate consultation to follow)

p97 – 36  compliance costs

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p117 onward are appendices