MainStreet Partners, the London-based ESG and Impact data provider, today (3 June) said that the UK investment industry is facing challenges with meeting the FCA’s Sustainable Disclosure Requirement (SDR) deadline of 2 December 2024.
Neill Blanks, managing director of MainStreet Partners said: “From the conversations that we have been having with asset managers it is clear that there has been a lot of pushback from the FCA thus far in terms of meeting the labelling requirements and no-one is finding it plain sailing.
“In the race to be among the first to use the new Sustainability Labels under SDR even investment houses who might be considered at the ‘dark green’ end of spectrum have found it a rigorous process, with the FCA expecting more evidencing through KPIs, and detailed sustainable investment policies.”
“If what most asset managers had before was a two page document, the FCA now expects more like five pages. Asset managers may have thought that it would follow a similar path to the European SFDR, but SDR is the FCA’s line in the sand against greenwashing and far more demanding, requiring asset managers to provide a lot more granular detail and bring in independent advisors/resources if needed Historically, ESG terminology has been used interchangeably within investment processes which is the opposite of what SDR requires.
“The broader implication of this regulation will be more specificity around sustainability in all corners of the investment industry, which can only be seen as a benefit for clients, however the burden falls on asset managers as well as wealth managers in the future.”
Specific support areas
The European SFDR was never intended as a labelling regime, which is exactly what the more restrictive SDR aims to deliver. While the FCA has asserted it won’t be ‘approving’ labels, the expectations outlined within the policy paper are clear, with ambiguities being specific to asset managers rather than the regulation itself. Therefore, there is a sense that if a fund utilises a label, it will have standards in line with those set out by the FCA under SDR.
There are segments of the UK investment industry that will need particular help to navigate SDR because they have received less specific guidance. They include e.g. Fund Selectors, Discretionary Fund Managers, Model Portfolio Service (MPS) and Fund of Funds (FoF) providers. These types of products that claim to be “Sustainable”, have been encouraged by the FCA to treat underlying funds as ‘assets’ and therefore, much like direct security investors, must establish an asset-specific, robust, absolute measure of sustainability for each of their underlying funds. The absolute measure of sustainability for each asset forms the criteria upon which the FoF may attain a product label under SDR. This approach is very different to the initial ideas that FoF managers had of performing a ‘look-through’ to underlying securities or relying on the underlying fund labels to attain a label for the FoF itself.
For example, if an underlying fund/asset in a FoF is investing in securities that generate at least 50% of revenues from products and services aligned to the UN Sustainable Development Goals (SDGs), that FoF could potentially use SDG alignment as the absolute measure of sustainability for that fund/asset. The FoF may then be eligible for a Sustainability label under SDR with one of the sustainability goals of the product being alignment to the SDGs.
The key part of the process being the due diligence needed to identify the appropriate sustainability element for the FoF to use for each asset. FOFs without a label will still have to justify to the FCA any use of ESG-related terms within its name through the appropriate documentation as well as the statement outlining why the fund has not attained a label. Non-ESG named, unlabelled funds (including FoFs) still need to abide by the anti-greenwashing and marketing rules, but do not need to meet much of the SDR requirements.
Jacob Kasaska, research associate at MainStreet Partners said: “The purpose of SDR is to protect consumers from greenwashing and raise the bar on sustainability claims. It is purposefully difficult to get a label, but from the asset managers we have spoken to, they generally appreciate SDR for its robustness.”
“Some Fund Selectors and FoF providers are telling us they are considering walking away from the labels because they don’t have the scale to absorb the costs necessary for SDR compliance, which could lead to consolidation. Family Offices are another area of the market left to their own devices, without the necessary cost-efficient tools to help them, despite some welcoming the rules and wanting to transition to this new compliance regime.”
“These are some of the areas in the investment industry that are struggling with SDR compliance and they’re typically the manufacturers of products which are most used by many retail clients in their financial planning i.e. pooled investment vehicles. This is a key problem for a set of regulations that are intended to benefit retail consumers. We eagerly await the outcome of the FCA consultation on MPS that concludes on the 14th June to see if there is any more clarity as to how fund buyers are expected to treat their ‘assets’ and attain a label.”
In addition, MainStreet Partners says that while Independent Financial Advisers (IFA) and Platforms may argue that their clients aren’t overly concerned about sustainable investing, this excuse highlights how they are not grasping the scale of SDR, or the industry sea-change that is underway. The FCA within the SDR policy statement highlight that from their research “80% of consumers want their money to do good, as well as deliver a return”. Therefore, the argument that consumers do not care about sustainability does not hold water.
MainStreet Partners’ Jacob Kasaska, added: ”Regulation such as MiFID II, Consumer Duty, SFDR, SDR, even Treating Customers Fairly, allude to the fact that end client sustainability preferences must be appropriately incorporated into long term financial planning with transparency. Sustainable finance is being embedded within our financial system, from Green Gilt issuance at a government level to mandatory sustainability elements within IFA fact finds for retail clients, so there is no ‘going back’ to a time before sustainability. On top of that, there is a large generational wealth transfer occurring, which will bring even higher demand for sustainable finance products and advice over the mid to long term.”
“SDR should not be seen as a new set of hurdles that make investing harder for people but should be viewed as a set of labels that make selecting the appropriate sustainable assets for an end client easier. The labels outline clear sustainability expectations, and it will fall on the IFA to determine client sustainability preferences and consequently the appropriate SDR label, or no label at all. In the meantime, FoFs must decide where to position themselves and how to communicate the sustainability outcomes to the IFA community, thus allowing the connection between consumers and products to be made”
MainStreet Partners, now part of Allfunds Group, has been providing investors and distributors a one stop shop for their sustainability requirements at portfolio level for almost 20 years.
