Your guide to the new Sustainability Disclosure Regime

For many years investors who want to see their money invested in an environmentally friendly or ethical way, or at least in accordance with their personal beliefs, have had to navigate a bewildering array of jargon linked to either the naming of investment funds on offer and/or the fund objective i.e. what is the fund manager aiming to return to investors and how.

There has also been a distinct lack of standards that fund managers had to meet to evidence that investment returns were being generated in accordance with the claims made in the funds marketing material.  

Introducing the Sustainability Disclosure Regime (SDR)

The Sustainable Disclosure Regime has been introduced to make it easier for investors to navigate the maze of investment choices available to them and support the selection of funds which are aligned to their own particular preferences with confidence.

This is being achieved in two ways: 

• The introduction of the anti-greenwashing rule, which will limit the use of certain words and phrases which are associated with environmentally friendly outcomes, unless the claims can be substantiated by data. and
• A rigorously monitored registration and labelling regime for funds wishing to identify as meeting particular sustainable outcomes. 

Why was the new SDR regime needed? 

Sadly, as more of us have embraced the concept of investing for our own financial security whilst also choosing to invest in companies which have a positive impact on society, there has been an increase in the number of fund and product providers overstating the benefits of investing in their funds to make them more attractive to investors; this has coined the term ‘Greenwashing’.  

The Anti-Greenwashing Rule 

The Financial Conduct Authority (FCA) has taken steps to introduce the Anti-Greenwashing rule into investment markets. This is to ensure that UK fund managers, and the firms that promote these funds to potential investors, can only use particular expressions which are generally recognised as indicating a positive sustainable benefit where the fund manager can provide factual data to support the claims being made.

The following list is an example of some of the terms which are now restricted when discussing investment funds unless backed up by factual data:

• Green
• Climate
• Social
• ESG
• Environment/ environmental
• Transition
• Sustainable
• Paris/Paris-aligned
• Net zero
• Impact
• Responsible
• Sustainable Development Goals or SDGs

What does this mean for investors? 

Following the introduction of the anti-greenwashing rule, investors can be confident that any fund claiming to invest in companies which are working towards specific sustainable outcomes, will have to evidence their due diligence processes to support these claims.  

Any funds making false claims will be subject to regulatory sanctions, as all communications must be clear, fair and not intended to mislead investors. 

Sustainable labelling regime 

As well as restricting the use of sustainable terms for marketing purposes, the FCA has also introduced four new labels (see below) which fund managers can apply to use if they wish to promote the sustainability benefits of investing in their fund.  

Source: FCA's Policy statement PS23/16

These new labels are designed to provide investors with a simple explanation of the types of companies their money will be invested in. 

At least 70% of the fund managers assets have to be invested into companies which meet the sustainable objective for a label to be awarded.

In addition, fund managers will have to provide evidence on an ongoing basis that the companies your money is invested into are achieving the sustainability results they claim

Investing with confidence

If you choose to invest in one or more funds carrying one of these labels you can have confidence that your money is being invested in companies which are aligned to your personal sustainable preferences.

Will all funds have one of these new labels?  

The simple answer is No.

The SDR labels, to be introduced in July 2024, are a voluntary labelling system, which will restrict fund managers from making sustainable claims unless they have applied for and been granted permission to use them.  

Not all fund managers will apply for one of these new labels, as the companies they invest in to generate returns will not necessarily be aligned to one or more of the sustainable outcomes, or they may not meet the eligibility threshold of 70% investment into qualifying companies .  

We should also mention that the new SDR only applies to UK domiciled (registered) funds. 

Initial research by Morningstar has indicated that around 300 funds are intending to apply for a Sustainability label, which is only 3% of funds available in the UK.  

What about investment funds outside of the UK? 

Many of the funds available to investors in the UK are registered outside of the UK in countries such as Dublin and Luxembourg and are not eligible to apply for one of the new sustainable labels, even if they are able to meet the UK regulator’s criteria.  

These funds are still rigorously regulated in their own jurisdictions but are not subject to UK regulation in the same way as funds which are UK domiciled.

The European Securities Authority (ESMA) are working on their own sustainability investment fund review and early indications are that these will not align fully to the approach taken by the FCA for UK funds.

This is something our investment director and his team will be keeping a close eye on as the ESMA review progresses. 

So how do these labelled funds fit into the investment fund universe? 

The illustration below is a high-level view of how you might categorise funds in the UK following the introduction of the new sustainable labels:  

Historically, the term ‘ESG investing’ has been used interchangeably to describe ethical investing, which is to invest in line with one’s own belief system, and impact investing, which is to invest for both a financial goal and a specific environmental or social outcome.

The introduction of the sustainability labels allows for a much clearer picture of the range of options available for investors who want to make a difference to the world we live in, as well as securing their own financial future, by investing in companies where their objectives are aligned.   

What does this mean for ESG investing? 

Environmental, Social, and Governance (ESG) investing refers to an investor's desire to invest not only for financial gain but also to have a positive impact on the Environment, ensuring that a company has a positive impact on Society while adhering to strong Governance standards.

In comparison, the sustainable labels are focussed on the environmental aspect of ESG investing.

Funds that are investing in companies which are striving to improve their impact on society or improve governance standards, such as gender and diversity equality, would not be able to apply for one of the sustainable labels.

Some funds carrying an ESG label may also have an element of sustainable or environment focus, but not to a sufficient degree to qualify under the sustainable label regime.

Importantly, if a fund does not have one of the sustainable labels but claims to invest some of your money in a sustainable manner, they will still have to be able to evidence this to the Regulator and provide appropriate disclosures to you as an investor.

So ESG funds will remain a part of the investment landscape for the foreseeable future, and the fund literature you receive should make it clear what criteria the fund manager is applying when selecting companies to invest in.

If you’d like to learn more about the changes happening or you’d like to discuss ways in which you can invest your money in accordance with your beliefs, why not get in touch.

Arrange your free initial consultation

Notes: The sustainable label regime only applies to individual UK funds at the time of writing (June 2024) and consultation is underway on how the new sustainable labels may be applied to portfolios of funds. 

Investment returns are not guaranteed, and you may get back less than you originally invested.

Past performance is not a guide to future returns.

The Financial Conduct Authority (FCA) does not regulate tax  advice.