Passive funds face new challenges as UK ESG regulations take shape | Daily News Byte


ESG rules in the UK look set to make life more difficult for marketing index-tracking and other passively managed strategies, according to lawyers advising the investment industry.

The Financial Conduct Authority has proposed a labeling system for environmental, social and governance funds which it says will be easier for retail investors to understand than the framework in the European Union. But the proposal is already “causing concern among managers of passive funds,” according to Tristram Lawton, managing associate of financial services at Simmons & Simmons.

The concern is that the plan “sets unrealistic expectations of what can be achieved and, importantly, through stewardship and engagement, can be proven to have been achieved,” Mr Lawton said. “I don’t think the active stewardship requirement will preclude passive funds from using the FCA’s proposed labels, but it will make it harder.”

It’s the latest sign that linking passive investment strategies to ESG goals can be difficult. Earlier this month, Vanguard Group pulled out of the world’s largest climate finance alliance, signaling that net-zero emissions goals are not realistic for a firm that has 80% of its business in index-tracking funds. Others have since made similar observations, and even the net-zero alliance vanguard left has acknowledged the point.

Meanwhile, there is evidence that the ESG market is shrinking. A report published this month by the US SIF Foundation found that durable assets are now about $8.4 trillion, compared to an estimated $17.1 trillion two years ago. He cited changes in methodology, and pointed to a tougher regulatory and political environment. SIF organizations in other regions are conducting similar reviews, according to Lisa Wall, chief executive officer of the US SIF.

The FCA unveiled its proposal for ESG labels in October with the express aim of combating greenwashing. Sacha Sadan, the FCA’s director of ESG, told Bloomberg that the UK was trying to clear up confusion over the EU’s Article 6, 8 and 9 disclosure categories, which he said had become “competition, but different things for different clients. is a reflection.”

The British plan includes three categories: “Sustainable Focus,” which invests primarily in assets that achieve a high standard of sustainability; “sustainable improvers,” in which fund managers target assets that may no longer be sustainable with the intention of making them do so; and “Sustainable Impact,” which targets solutions to social and environmental challenges.

“Qualifying for FCA sustainability labels under these proposed rules is a more complex task than classifying a fund under (EU rules),” said Ben Maconic, managing associate at Linklaters. As a result, “many fund managers will have to implement a new approach to product classification in light of these proposed regulations, and modify their strategies to satisfy the detailed eligibility criteria for the labels.”

In a written comment, an FCA spokesperson said “it is important that the way ESG products are marketed and described does not mislead potential investors. If clients do not trust funds marketed as sustainable, they will not.” Experience. Money in this fund.”

The result is that the number of UK-domiciled funds carrying the ESG label is shrinking. According to Morningstar, passively managed funds listed as sustainable accounted for 56% of the total market in October, compared with 28% across Europe.

The UK Sustainable Investment and Finance Association says passive strategies can be compatible with sustainability goals. “There are plenty of stewardship approaches available to managers of passive funds,” said its CEO James Alexander. “You can be an active owner.” “If you’re not achieving your stewardship goals, you don’t necessarily have the ultimate goal of divesting,” he said.

An FCA spokesman said the watchdog’s proposed labeling regime “aims to raise the bar by setting higher standards to protect consumers. While the starting points for our proposals and the SFDR (Sustainable Finance Disclosure Regulation) are different, we know that firms will be subject to this.” Both, and so we’ve tried to be consistent and complementary.”


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