FCA Must Offer Steer on “Complex” Green Fund Rules
Sustainability-focused labels promise significant benefits for asset managers, but slow approval rate illustrates implementation challenges.
Asset managers require further support from the UK’s Financial Conduct Authority (FCA) to meet its Sustainability Disclosure Requirements’ (SDR) naming and marketing rules for green funds, despite recent flexibility.
The SDR rules are intended to improve transparency, bolster reporting and limit greenwashing related to sustainability-focused investment products through the introduction of labels and guidance.”
The regime’s four sustainability-focused labels – ‘focus’, ‘improvers’, ‘impact’ and ‘mixed goals’ – are voluntary in theory, but funds that use terms such as ‘sustainable’ and ‘impact’ in their names must obtain one. This means fund managers need to demonstrate that at least 70% of the fund’s assets support the selected strategy.
“Clearly SDR has been complex so far,” Oscar Warwick Thompson, Head of Policy and Regulatory Affairs at the UK Sustainable Investment and Finance Association (UKSIF), told ESG Investor. “There’s certainly more that we want to see our asset manager members do, but at the same time there’s definitely more that the FCA can do to help smooth some of the implementation pathways.”
Firms have been able to use the labels since the end of July, but following engagement with the investment industry the FCA found the application process was taking longer than expected.
Initially due to come into effect on 2 December, the FCA has offered asset managers temporary flexibility to comply with the naming and marketing rules under its SDRs until 2 April next year. This gave funds with sustainability-related names longer to prove these justified one of the four new labels.
More than 1,200 funds in the UK will be affected by the SDR’s naming and marketing rules.
While UKSIF welcomed the FCA’s “pragmatism” to avoid ‘cliff-edge’ compliance risks, it warned this should not lead to “greater complacency within industry and markedly slower progress towards compliance [or] fundamentally delay progress in implementation”.
UKSIF previously called on the FCA to provide active support for industry, including through more frequent and detailed updates to the SDR guidance webpage, greater transparency on overall fund approvals, and widespread sharing of good practices to foster a high standard across the sector.
“There is a role for more guidance from the FCA to talk about what good look likes, what is best practice in terms of the four label categories, and to provide examples of where funds are falling short in their disclosures,” said Warwick Thompson.
“The FCA needs to be a bit more transparent and proactive in highlighting their expectations for firms and publicly communicating this,” he added.
An “arduous” process
Asset managers have proved keen to apply for the new FCA labels in order to grow market share among institutional and retail investors seeking to sustainable investment opportunities, with as many as 400 funds having applied for labels under SDR so far.
Research by Morningstar Sustainalytics found ESG funds had drawn in US$10.4 billion of net new money globally during Q3, an increase from US$6.3 billion of inflows in Q2, demonstrating continued investor interest.
However, the FCA has only authorised labels for 10 funds to date.
“The most challenging aspect of the regime has been actually getting approval for SDR labels,” said Raza Naeem, Financial Regulation partner at Linklaters. “Generally, the sense is that many managers are giving up on or pausing getting an SDR label for their funds.”
In July, AEW – the real estate arm of Natixis Investment Managers – became the first asset manager to receive necessary approvals from the FCA to apply an SDR label to one of its UK-domiciled funds. The firm’s UK impact strategy adopted the SDR’s ‘sustainability impact’ label.
It was followed in September by impact investor WHEB Asset Management, who became the second manager to adopt an SDR label, with its FP WHEB Sustainability Fund now branded a ‘sustainability impact’ vehicle.
Last week, WHEB’s Head of Research, Seb Beloe, said that the process of attaining an SDR label had been “arduous”, taking five months to agree changes with the FCA, including 20 iterations of the prospectus of the fund, three Zoom calls and three rounds of written feedback from the FCA.
He added that there was “real frustration” in the market with the FCA and strong interest from peers about WHEB’s experience as an early label adopter.
“The pain that the industry is experiencing should bear dividends in having a regulatory regime that is flexible and able to evolve as the industry develops,” said Beloe. “The FCA’s ambition is for the labels to be a valuable designation that the market actively uses as part of fund selection. To achieve this, we need hundreds of funds to be using the labels and covering all asset classes, regions and styles of investing.”
Warwick Thompson said UKSIF will continue “constructive” dialogue with the FCA to find solutions to the implementation challenges arising from the naming and marketing rules. UKSIF was part of the Disclosures and Labels Advisory Group, which previously advised the FCA on the design of the SDRs, and the association has suggested reviving the group to help steer the implementation of the regime.
“We want to see SDR extend to overseas funds, and we also want to see it extended to portfolio management and pension products,” Warwick Thompson added.
The FCA is expected to publish its final policy statement on ‘Extending the SDR regime to Portfolio Management’ in Q2 2025, which will mirror the SDR requirements for fund managers in terms of the structure of the labels, as well as disclosure and reporting requirements.
The authority is also expected to consult on broadening the scope of SDR to include funds recognised under the Overseas Funds Regime before the end of this year. According to the FCA’s timeline, the consultation had been due to launch during Q3 and close sometime in H2, with the Government aiming to lay any legislation required to implement its decision on SDR and labelling for OFR funds by the end of the 2024.
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