Surge in EU sustainable fund upgrades prompts call for regulation

The EU has been urged to set “precise” guidelines for funds to determine whether an investment is sustainable after an unprecedented number of products upgraded the proportion of sustainable investments they hold.

According to Morningstar, 294 Article 8 funds revised their commitment between July and September, a rise from 190 in the previous quarter.

Under the EU’s Sustainable Finance Disclosure Regulation, Article 8 funds must promote environmental or social characteristics but do not have sustainable investing as a core objective.

A majority of Article 8 funds that revised figures for minimum sustainable investment proportion during the third quarter increased it, with changes ranging from 2 per cent to 70 per cent.

This article was previously published by Ignites Europe, a title owned by the FT Group.

The minimum percentage sustainable investment of the Portfolio Wachstum ZKB Oe Fund, which is managed by Swiss bank Zürcher Kantonalbank, increased the most, from 0 per cent to 70 per cent.

The revisions come after a Q&A document was published earlier this year by the European Commission, which said it was up to asset managers to “carry out their own assessment for each investment and disclose their underlying assumptions”.

Guillaume Prache, senior adviser at Better Finance, an investor campaign group, said a rise in the minimum percentage of sustainable investments across Article 8 funds “will not do any good” for investors, who would expect their environmental, social and governance investments to have real impact.

Prache said “Article 8 funds should be eliminated” as the products are “most prone to greenwashing”. This is because sustainable investments in Article 8 funds are typically “simplified as green activities”, he said.

He added that some Article 8 funds used “the simplest sustainable investing approach” of exclusion, with the majority of their “typical” holdings concentrated in software communication companies.

“When managers increase the minimum share of so-called sustainable investments, in most cases, they are inflating the share of the company, which already had a low carbon footprint,” he said.

Detlef Glow, head of research for Europe, the Middle East and Africa at Refinitiv Lipper, added that it was unsurprising that fund managers were increasing the minimum percentage of sustainable investments as this is seen as a “positive” factor for fund distribution.

Under Mifid II investor sustainability preference rules, funds are separated by distributors based on criteria including proportion of sustainable investments.

Glow said the commission’s clarification earlier this year lacked “precise measures and guidelines” for assessing a company’s sustainability, requiring fund managers to conduct their own evaluations and disclose the underlying assumptions.

“[Managers] can make decisions on the minimum percentage of sustainable investments with confidence, as the approach hands over the responsibilities for evaluation to the asset manager,” he said.

Hortense Bioy, global director of ESG research at Morningstar, said that “clear guidance” from regulators on how to calculate sustainable investments was essential.

She said there was a need for increased transparency on the methodologies that are used to define and measure sustainable investments in portfolios.

But others say asset managers have revised their figures due to improvements in investee company reporting on ESG metrics.

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Ottilly Mould, sustainable finance lead at consultancy Nordic Sustainability, said new standards for corporate reporting would make hitting a minimum percentage of sustainable investments more possible by giving funds a clearer understanding of companies’ prioritisation of sustainable factors.

Adrian Whelan, global head of market intelligence at Brown Brothers Harriman, added that there was “divergent thought” across the funds industry on whether mandating minimum levels of sustainable investment would result in more or less certainty and comparability.

“The more specific a fund is about their ESG conviction in terms of a tangible numeric sustainable investment commitment, the more inflows they receive,” he said.

He pointed out that “vague and opaque descriptions” of sustainability were “more frowned upon, even if they meet the letter of the SFDR law”.

*Ignites Europe is a news service published by FT Specialist for professionals working in the asset management industry. Trials and subscriptions are available at igniteseurope.com.