Major investors have criticised proposals on ESG fund names put out by EU financial watchdog ESMA, claiming that the timing of the proposals is bad, that they are based on unclear definitions and may not be needed.

The EU regulator launched the consultation – which closed on Tuesday – in November last year, seeking to institute formal guidelines for funds which use ESG or sustainability-related language in their names.

Under the proposals, funds with ESG-related words would have to invest at least 80 percent of assets towards meeting environmental or social characteristics or sustainability objectives defined in the strategy. Those with sustainability-related terms should allocate at least half of their assets to sustainable investments as defined under the Sustainable Finance Disclosure Regulation (SFDR), the EU’s anti-greenwashing regulation.

While investors were broadly supportive of the aims and ambition of ESMA to crack down on the risk of greenwashing, they delivered sharp criticisms of timing, proposed thresholds and minimum exclusion criteria.

In its response, Amundi said that while it supported the objective of the guidelines, especially for protecting retail investors, it was “really concerned” that the proposed guidelines “raise confusion and timing issues that would lead to the opposite effect”.

Europe’s largest asset manager noted that the guidelines were based on not clearly defined concepts, especially the definition of “sustainable investment” under SFDR; that they overlapped with current rules or planned initiatives; that they don’t cover ESG benchmarks and may not supersede national rules which may lead to market fragmentation.

The final guidelines, it said, should only be released when ESMA “can bring more visibility” on the issues it raised.

Schroders’ response followed much the same lines, noting diverse approaches among national regulators and the lack of clarity on what a sustainable investment is under SFDR. If the clarified definition of a sustainable investment does result in managers having to change internal definitions and thus recalculate proposed thresholds, “this is not conducive to promoting trust in the ESG European fund industry”, the UK fund manager wrote.

Schroders said that the market should be allowed to “stabilise and digest recent and upcoming changes” regarding SFDR before further changes are considered. The manager said that fund names are in any case sufficiently covered by generic marketing principles around “fair, clear and not misleading”. These principles should be thoroughly enforced, Schroders said. 

While BlackRock did not call for a delay in introducing the guidelines, it did note that given significant recent changes to prospectus and disclosure documentation under SFDR and the taxonomy, proposed changes should be “appropriately phased within existing product update cycles”. It also called for more details to be published on what terms ESMA would consider to be ESG or sustainability-related, to give investors “enhanced certainty on which requirements would apply”. 

Thresholds questioned 

Asset managers on both sides of the Atlantic also proffered criticisms of the proposed quantitative thresholds, although there was a mixed response to the concept itself. In its response, BNP Paribas Asset Management suggested circumventing uncertain definitions by making the thresholds relative to fund benchmarks or lowering the thresholds for sustainable investments for those funds with sustainability language in their names. 

State Street delivered harsher criticism, saying that it “does not agree with the proposed introduction of quantitative thresholds” for several reasons. The manager again raised concerns about unclear definitions and said that challenges with data availability or comparability could result in funds being restricted only to those investments with adequate data, mainly large cap equities.

Methodological challenges could also result in a cap on multi-asset and fixed income funds investing in cash or government bonds which could result in heightened concentration risk, the investment giant wrote.

Inadvertent investment restrictions were also raised by Fidelity International. While it supported a threshold for ESG-labelled funds, albeit one cut to 70 percent of assets, Fidelity said that the 50 percent threshold would not address greenwashing challenges for sustainable-labelled funds.

Adopting quantitative and prescriptive views on what funds can be named sustainable could mean that investors wishing to invest sustainably are restricted from asset classes or geographies “with a risk of undue focus on large cap developed issuers aligned with the SDGs”, the response continued.

BlackRock took a more supportive approach, saying that it believed the minimum thresholds “can work for most funds”, although it called for consideration of how they would affect fixed income, multi-asset or private market funds.

Similarly, JPMorgan Asset Management said that “where proportionate and calibrated appropriately, we believe that quantitative thresholds can be a simple and highly-transparent approach to delivering on ESMA’s objective”.

However, it raised “material concerns” over ESMA’s approach, and said the guidelines in their current form would fall short of achieving their aim. It raised concerns over linkage with SFDR and the impact of subsequent revisions, as well as calling for cash, cash equivalents and hedging derivatives to be excluded from calculating the threshold. 

Concerns over cash holdings were echoed by Germany’s Union Investments, which said that while it supported the introduction of quantitative thresholds, the 80 percent requirement was too high, and should be reduced to 25 percent, while the 50 percent requirement was “unrealistically high” and sustainable-related funds should instead be regulated based on the assessment of sustainability preferences under the EU’s MiFID II regulation. 

Exclusions too tough 

Asset manager respondents were almost unanimous in their criticism of proposed minimum exclusion thresholds as being too strict. Insight Investment for instance said that while there should be minimum standards for exclusions, the proposal that these should be based on the Paris-aligned Benchmark (PAB) standards is not the correct one. 

PAB exclusions were created for a specific focus of climate products, and so do not apply to funds with broader ESG characteristics or social oriented funds, it said, and are overly restrictive. Preventing investment in the energy sector, for instance, would prohibit funds from supporting the transition, and the minimum standards should be based on the less stringent Climate Transition Benchmark Standards. 

This was echoed by Fidelity International, which opposed the use of any kind of minimum standard, saying they should instead be embedded into SFDR and MiFID. If ESMA does introduce standards however, they should be based on market practice such as controversial weapons, tobacco, some coal and norms-based exclusions, it said.

Associations in agreement 

The views of investors were largely in line with the message delivered by industry associations and investor alliances. 

Eurosif noted that it supported the idea of introducing minimum sustainability criteria for the different product categories. But it questioned whether setting minimum criteria without “sufficient clarity on the key concepts and definitions in SFDR is an appropriate way forward”. The response lists a series of alternative suggestions to be aimed for in any SFDR review and calls for as much clarity as possible on existing provisions in the meantime. 

The Principles for Responsible Investment echoed calls for proposed minimum safeguards to be adjusted to allow for different responsible investment strategies such as stewardship, while the Institutional Investors Group on Climate Change (IIGCC) said that ESMA should wait for clarification on what constitutes a sustainable investment before setting thresholds. 

Emily Murrell, the IIGCC’s climate policy programme director, also said that ESMA should ensure that its guidelines were as interoperable as possible with UK and US developments, and the wider EU regulatory framework for sustainable finance.

In its response, the Investment Company Institute said that it was not supportive of quantitative thresholds at this time, again noting the lack of clarity over SFDR definitions, while German fund association BVI criticised the 80 percent and 50 percent thresholds and minimum exclusions, as well as noting the proposals are “one-sidedly designed for classic securities funds, especially equity funds”.

Thomas Richter, the BVI’s CEO, said that a forthcoming review of SFDR in Summer and the European Commission mooting its own ESG labelling regime for all financial products meant it “would therefore be counterproductive to define ESG categories in advance exclusively for funds”.