Market players do their best to navigate a sea of regulation that often lacks harmony and consistency across regions.
The global investment community is walking a “tightrope” between greenwashing and green blushing as it strives to stay abreast of regulatory developments that continuously ramp up accountability on sustainable investing, industry sources have sad.
Speaking during an event held by global asset manager Fidelity International, panellists argued that 2024 would be a year of consolidation and implementation in the sustainable investment universe, after the number of regulatory consultations double last year.
“It’s important to highlight the pace of change that we’ve seen and the ‘hockey stick’ acceleration in global regulation,” said Gabriel Wilson-Otto, Head of Sustainable Investing Strategy at Fidelity International. “This is not just US-centric – we’re seeing this across Asia-Pacific as well, with very different responses to the way regulators are starting to address some of those issues. That pace of change is here to stay.”
Although most regulations have been aiming to provide corporates and asset managers with a uniform way to approach sustainable investing, many discrepancies exist and have created challenges in terms of compliance and implementation.
“There is a huge raft of regulation coming at pace that is not necessarily harmonised,” Wilson-Otto explained. “This introduces potential risks for asset managers from a cross-border range, because they need to make sure that funds are meeting different requirements in different markets.”
The global increase in regulation came partly as a response to some managers’ overstatement of sustainability credentials – known as greenwashing – but has also led to a growing tendency to downplay those, referred to as ‘green blushing’. In the context of multiple and varying regulations across jurisdictions, this can help to limit sustainability claims to ensure compliance with the strictest of rules.
An example of divergence is the differences between the EU Corporate Sustainability Reporting Directive (CSRD) – for which compliance with which started on 1 January – and recommendations from the International Sustainability Standards Board (ISSB), which last year published its first two exposure drafts for sustainability- and climate-related disclosures.
Although some degree of convergence and collaboration between regulators and standard setters has successfully resulted in broad global themes, distinct local specificities have simultaneously emerged at a rapid pace.
“There’s a potential for mismatch in corporate disclosure when it comes to both the application of companies operating within the EU and outside the EU, and in the scope of information that’s being provided to investors and other stakeholders,” explained Jenn-Hui Tan, Chief Sustainability Officer at Fidelity International.
For cross-border fund managers, there is also the impact of different fund labelling and disclosure regimes across regions that use distinct taxonomies, which in turn creates fragmentation risk for their product ranges.
One prominent regulation that has led to such issues is the EU’s Sustainable Finance Disclosure Regulation (SFDR), which outlines three classifications for funds – Article 6, 8 and 9 – in relation to their sustainability commitments.
“While there is consistency in how all of this regulation fits together at that regional and country level, it is often inconsistent at the global level,” said Tan. “What we need to see emerge is the harmonisation of different standards on similar topics.”
In September last year, the EU launched a review of the SFDR regime. Feedback on the consultation, which closed in December, showed a broad range of views from market participants, but consensus eventually leaned toward a hybrid approach that came closer to the one proposed under the UK’s upcoming Sustainability Disclosure Requirements (SDR).
“If we look at product labelling, there’s been fantastic progress to date with SFDR, and more recently, with SDR,” said Wilson-Otto. “It’s good to see the regulators taking on board feedback from the industry to make sure that regulations are fit for purpose, and are having the desired market outcome of channelling capital towards sustainable activities and funds.”
Market participants should, however, expect many more changes down the line, Wilson-Otto insisted.
“There’s recognition that sustainability regulation is a constantly evolving standard, and that there is always work to be done in order to refine implementation and deployment,” he added. “What we’re definitely seeing is an openness globally towards that incremental, iterative approach of moving towards the final goals and targets.”
Facing such challenges, investors have had to find ways to remain compliant and stay on top of rapidly moving goalposts.
“We’re trying to approach this from a bottom-up perspective,” said Wilson-Otto. “In order to ensure global consistency and clarity in our disclosures, we need to start with data frameworks and a foundational layer that can be used across the enterprise for the classification of activities and funds.”
Once that has been established, a set of tools is required to facilitate portfolio construction and reporting to both clients and regulators, he continued. “This consistent enterprise-wide layered approach is effectively the way that we’re responding to global regulation and setting a path, both for product and data architecture, to be able to represent and classify our funds in an authentic way.”
Overall, the industry should be cognisant of the robust pipeline of sustainability-related regulations. The ones that are due for implementation will likely have a significant impact on data availability and flows into sustainable funds, according to Tan.
“We’re seeing the evolution of sustainable investing from being a voluntary market-led activity to being a regulated one,” he said. “There are pros and cons to both approaches, but ultimately, our view is that if you want to embed sustainability into the financial system, regulation is needed to harmonise expectations and create the kind of behavioural change that we need.”