Dutch regulator AFM comes out in favour of wholesale SFDR reform

AFM calls for Article 8 and 9 abolition and proposes three fund labels, as well as mandatory adverse impact reporting for all products.

Team building, team collaboration for business idea, teamwork to solve problem, strategy plan to work together for success concept, businessmen and businesswomen team up to solve lightbulb jigsaw.

Dutch financial regulator AFM has called for all financial products to disclose a minimum level of adverse impacts in a position paper on reform of the EU’s Sustainable Finance Disclosure Regulation (SFDR).

The paper, published on Thursday, sets out a series of reforms that AFM says would ensure the framework is better suited to supporting investors in their sustainable investment decisions.

These include requiring minimum adverse impact disclosures for all financial products, introducing product labels with minimum quality and disclosure requirements, and abolishing the Article 8 and 9 designations.

In September, the European Commission released a wide-ranging consultation on the future of SFDR. The 44-page questionnaire covers topics including proposals to abolish the Article 8 and 9 system, potential changes to disclosure requirements and whether the purpose of the regulation itself is still relevant.

The AFM has proposed that all products should disclose against a “limited number” of sustainability indicators in order for investors to assess the most important negative impacts. This would also help level the playing field for all products, it said. Products that make sustainability claims would have different disclosure requirements.

The basic disclosures would cover emissions, biodiversity and human and labour rights, potentially based on principal adverse impact (PAI) indicators or a subset of the group. Funds would also have to disclose the presence of an emissions reduction target and carbon credit usage.

Turning to categorisations, the AFM suggested three broad labels for products: sustainable, sustainable impact and transition. Disclosure requirements should be tailored to the specific category, it said, and Articles 8 and 9 should be done away with altogether.

The three proposed labels are broadly in line with the categories being mooted by the Commission itself.

The Dutch regulator had already banned market participants from using SFDR labels to promote their products as part of its own sustainability claims guidance.

Under its proposals, transition products would invest in unsustainable companies that plan to become sustainable and look to create impact through active management of assets. Disclosures could include metrics regarding the measurement of investor contribution and engagement strategies.

Sustainable impact funds would seek to make direct and measurable impact through investments, while the third category of sustainable fund would not look to make an impact but would hold sustainable assets only. Assets could be considered sustainable according to the EU taxonomy or internal criteria for social objectives or assets not covered.

Funds that do not fall into these three categories could still have sustainable characteristics or objectives, but would have to disclose these. Products that focus on multiple categories could report on the percentage of their total portfolio that falls within each of the three.

Market participants would still be able to use ESG terms in the names of funds outside the categories but would not be able to use the specific category labels or closely related terms.

Raoul Köhler, sustainable finance co-ordinator and senior policy adviser at the AFM, told Responsible Investor that it would be a “wasted opportunity” not to use the Commission’s SFDR review to make the regulation “a framework that’s really working both for investors and for the overarching objective of reorienting capital flows to sustainable investments”.

He acknowledged that SFDR had brought benefits but said improvements could be made.

“The SFDR is enhancing transparency and forcing market participants to clarify what they mean when they make sustainability claims for their products,” he said. “This also forces market players to actually look into their impact.

“But there is clear room for improvement for guiding investors towards investments that make impact.”

Köhler said there was a “clear desire” for a classification system that was easy to use but that current developments had taken a wrong turn with the misuse of Articles 8 and 9 as proxy labels.