UK regulator seeks evidence of barriers to collaborative engagement, expects consultation responses to feed into review of ‘macro’ stewardship.
The Financial Conduct Authority (FCA) wants institutional investors to highlight “perceived barriers” to collaborative engagement in response to its consultation on the finance sector’s role in driving positive sustainable change. The UK regulator is also prioritising evidence from asset owners and managers on the need for guidance on ‘macro’ or system stewardship.
The consultation, which closes today, 10 May, is not expected to lead directly to specific regulatory proposals, according to Mark Manning, Strategic Policy Advisor, Sustainable Finance at the FCA. But it will feed into a wider review of UK stewardship policy, as well as influencing the FCA’s future approach to the area.
“This is the start of a dialogue,” Manning told ESG Investor. “We don’t want the conversation to stop when the discussion period ends. We want to continue to engage actively on these topics.”
DP23/1, released in February, focused on the capabilities needed by FCA-regulated firms to support both economy-wide transition to net zero and sustainable business models more broadly.
It specifically asked asset owners and managers about their views on the need for regulatory change to support their stewardship and engagement efforts, with particular reference to the systemic risks that universal owners cannot diversify away from.
According to Manning, the FCA is keen to identify regulatory constraints on collaborative engagement, which has been used increasingly by asset owners and managers in recent years, particularly to address systemic environmental risks, such as climate change and accelerating biodiversity loss.
“Investors should let us know whether there are specific aspects of our framework that act as impediments” to collaborative engagement, he said, citing market abuse regulation and competition law as representing potential obstacles.
Evolving engagement practice
Collaborative engagement has become an integral part of the stewardship toolbox, with asset owners and managers working together in formal coalitions, such as Climate Action 100+, or combining in support of specific shareholder resolutions or public letters on topics of shared concern.
Earlier this year, the Investor Forum updated its Collective Engagement Framework to take account of “evolving practice” in the dialogue between investors and firms on ESG themes. The review factored in the implications of UK market abuse regulations and developments in competition law in major jurisdictions.
Manning said the question of “perceived barriers” to collaboration had been raised previously, in feedback to the FCA’s discussion paper on stewardship regulation, jointly published with the Financial Reporting Council (FRC) in 2019, and since.
“It has been raised as a general matter, but not in sufficiently specific terms for us to be able to contemplate any regulatory response,” he added, saying the regulator would welcome feedback on “specific targeted circumstances”.
The FCA is also seeking input from asset owners and other stakeholders on the need for potential regulatory change in light of the challenges of addressing systemic risks through ‘macro’ or system stewardship activities.
DP23/1 noted that system stewardship by investors – in response to systemic risks that impact the broad range of components of investors’ portfolios – is a complex activity, partly due to the increased likelihood of conflicts of interest. The paper asked for feedback on “additional measures” to help FCA-regulated firms identify and respond to market-wide and systemic risks.
Manning said feedback on this subject would inform a planned review of the overall UK legal and regulatory framework relating to investment stewardship, due to be conducted later this year. The review will be led by the FRC, with the involvement of the FCA, the Department of Work and Pensions and The Pensions Regulator.
Areas to be covered include the effectiveness of the FRC’s Stewardship Code in creating a market for stewardship, interaction between the code and existing stewardship-related rules in the FCA Handbook, and stewardship-related issues raised in the UK government’s updated Green Finance Strategy, released in March.
These included the need for better information flows to ensure stewardship “can be efficiently implemented and transparently assessed” and the role of systemic stewardship in supporting the achievement of positive sustainability outcomes.
The FRC’s Stewardship Code, revamped in 2020, already takes account of issues of systemic risk, with principle four of the code requiring signatories to “identify and respond to market-wide and systemic risks” to promote a well-functioning financial system.
Manning said regulatory frameworks and guidance needed to reflect evolving practice, including the increasing focus on sustainability priorities in the exercise of stewardship oversight.
“Given that over the past few years, there has been quite a bit of an advance in thinking around climate and sustainability-related matters, and around the role of macro stewardship, we may want to consider whether the content around macro stewardship in the current Stewardship Code is adequate, or whether additional guidance may be necessary,” he said.
Key role for stewardship
Manning said the FCA’s view of the importance of investment stewardship to achieving positive sustainability outcomes was also reflected in the regulator’s proposals for Sustainability Disclosure Requirements (SDRs) as well as its approach to the finance sector’s role in the net zero transition, including its support for the work of the Transition Plan Taskforce (TPT).
The SDR proposals include plans for three categories of sustainable investment label – sustainable focus, sustainable improvers and sustainable impact – to help investors differentiate between investment products with different objectives.
“The SDR proposals recognise the role of stewardship as a legitimate part of a sustainable investment strategy, with the inclusion of the sustainable improvers category,” said Manning.
“This recognises those funds which are investing in support of the transition to a more sustainable future by identifying those companies that are well poised to achieve sustainability improvements and using engagement and voting and their stewardship strategy to help portfolio companies along that path.”
In March, the FCA said it would delay publishing its policy statement on the proposals until the third quarter of this year, citing volume of feedback, adding that the proposed effective dates will be “adjusted accordingly”.
The UK regulator also sits on the steering group and delivery group of the TPT, which consulted on its disclosure framework and implementation guidance to firms and institutions earlier this year. Its work is expected to be incorporated into the UK regulatory framework, building on existing requirements for climate reporting in line with the recommendations of the Task Force on Climate-related Financial Disclosures.
Manning said the TPT’s guidance would provide support and input for investors’ sustainability-related stewardship activities.
“If you consider a firm has a credible transition path, you can stay invested, use your stewardship to monitor and accelerate progress along that path, rather than divesting and passing on the problem for somebody else,” he said. “Ultimately, we see stewardship as an integral part of an overall investment strategy and an important tool for an asset manager or asset owner in investing in a way that aligns with a sustainability-related or net zero objective.”
Although the FCA is not committed to specific changes to regulation in response to feedback on DP23/1, Manning said future action by the regulator would be driven by evidence.
“We will take stock of the feedback, work towards a feedback statement and continue to engage with stakeholders as the work progresses. Should there be a clear evidence base that we should be considering regulatory change in any particular area, we will give that due consideration,” he said.
Mark Manning, Strategic Policy Advisor on Sustainable Finance at the Financial Conduct Authority, will be a keynote speaker at ESG Investor’s Stewardship Summit 2023, held in London on 10 May.