A Red Light for Greenwashing

Supervisors and service providers must bolster trust in sustainable investment products, insists Anyve Arakelijan, Policy Advisor at EFAMA.

Sustainable investing is still a relatively nascent industry, often lacking clear and comparable ESG criteria and the data required to assess these. Growing demand and availability of sustainable investments, combined with a wave of often inconsistent regulations, have added significant complexity for financial markets and, most importantly, investors. Maintaining trust in this industry as it grows is crucial if the EU wants to remain a world leader in this area. As a result, regulatory supervisors have paid increasing attention to the topic of greenwashing. Asset managers have also been taking their responsibility to avoid greenwashing risks seriously, as it is increasingly important for client and brand trust, in addition to regulatory compliance.

Consistent recommendations

With this in mind, EFAMA and its members were pleased to see the European Supervisory Authorities’ (ESAs) Final Reports on Greenwashing, which provide national supervisors with consistent recommendations to follow. They stress that consistency among policymakers and regulators is paramount, not only in setting local regulations but also, in the EU’s case, interpreting EU regulatory provisions uniformly. Close cooperation and coordination among international supervisors and the development of interoperable sustainability disclosure frameworks is also highlighted as a key element.

An important test of supervisory coordination will be the implementation of the European Securities and Markets Authority’s (ESMA) ESG fund names’ guidelines, which have recently been published in all official EU languages. Given the pan-European distribution of EU funds, it is crucial that the guidelines are implemented consistently across all EU member states. Any fragmented application would undermine transparency for ESG investing and impair the cross-border marketing of European Economic Area-domiciled funds, to the detriment of the EU’s Capital Markets Union project.

Enhancing transparency

So what is greenwashing? The reports mark a significant step towards enhancing transparency by clarifying the core attributes of this concept. A unified understanding of greenwashing within the market, and harmonised supervisory actions, are essential. Claims of ‘greenwashing’ often imply a universally agreed definition of what standards a sustainable product should live up to. However, this is not the aim of existing regulations. Currently, the most important component is to assess whether a firm’s disclosures clearly and fairly reflect the product’s underlying sustainability profile.

So far, national supervisors have detected a limited number of actual or potential occurrences of greenwashing. The ESMA report implies a number of reasons, including lack of supervisory resources and expertise, difficulties accessing good quality data, low financial literacy, and lack of signals reaching supervisors. While these are all likely true, they are unlikely to be the only reasons. Financial market participants have put an incredible amount of resources towards clear and compliant ESG disclosures, in a rapidly evolving regulatory environment characterised by delayed clarifications and frequent updates. Unfortunately, these frequent changes have also made it harder for investors to navigate complex terminologies, with Sustainable Finance Disclosure Regulation Articles 8 and 9 being a good example. Supervisors need to acknowledge that there are currently structural issues in the broader regulation and market when considering potential greenwashing infringements.

Stay vigilant

While awaiting greater regulatory stability, asset managers need to stay vigilant in their communications, ensuring that they fairly represent the underlying portfolio and are not misleading. The best interests of the client must remain front and centre, which will mean different things for different clients. Communicating on portfolio sustainability characteristics will look different if you are talking to a large institutional client with good understanding of sustainability terms versus a retail investor who has only high-level ideas about their money ‘doing good’.

ESMA has also highlighted that greenwashing can occur within third parties outside the scope of the EU sustainable finance legislation. For instance, investee companies could make misleading claims in their financial statements, or third-party data providers/ratings agencies could provide inaccurate ESG data. To guard against this, asset managers undertake extensive due diligence before onboarding external data. And the industry has been adapting its governance and processes, building expertise, upgrading data infrastructure, and ensuring comprehensibility for consumers.

These efforts were acknowledged by ESMA in their reports. The most effective approach, however, would be to state each stakeholder’s responsibility for the accuracy and quality of their data, regardless of whom this data is being disclosed to within the investment value chain. If each participant in the value chain takes their share of the responsibility for potential greenwashing, it will cut down on the number of costly checks and processes at each firm.

A transparent and trustworthy market

Going forward, any new guidance around greenwashing should ideally take existing frameworks into account and benefit from consistent and harmonised supervision at both the EU and international level. For instance, if ESMA is mandated to provide additional guidance on marketing communications (as part of the European Commission’s Retail Investment Strategy), relevant existing regulations should be looked at and supervisory convergence encouraged.

Together, we can establish a transparent and trustworthy sustainable finance market that not only benefits investors but also contributes to the global transition towards a more sustainable economy.

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