The EU has adopted a new set of rules that will change the way in which asset managers and financial advisors address environmental, social and governance (“ESG”) when conducting business. Two of the cornerstones of the new legislation are:
At a high level, the SFDR requires in-scope entities to implement policies and make certain pre-contractual disclosures and periodic reporting on how ESG factors are being integrated into investment decisions and internal processes, but also to ensure marketing communications are consistent with such disclosures.
The Taxonomy Regulation creates a consolidated EU classification system of environmentally sustainable economic activities against which all financial products will need to be categorized. For products declared to be sustainable, disclosures will have to be made as to how and to what extent the taxonomy has been used. Other products (including those with ESG objectives but not qualifying as sustainable) will have to include a statement that the investments underlying the financial product in question do not take into account the EU criteria for environmentally sustainable investments.
The requirements under the SFDR do not apply until March 2021. The European Supervisory Authorities have been mandated to develop draft regulatory technical standards to specify the details of the presentation and content of the information to be disclosed under the SFDR. While the initial deadline for finalizing the technical standards was the end of 2020, this has now been postponed to a later date.
However, the European Commission has clarified that even though not all details will have been set out by March 2021, it expects in-scope entities to comply with the high-level principles of the SFDR as of then.
The Taxonomy Regulation will not kick in in practice until January 1, 2022 at the earliest.
The Disclosure Regulation and the Taxonomy Regulation have a large scope of application. They apply to:
In-scope entities will have to review existing systems and procedures, as well as amend and expand them to satisfy the new ESG requirements. They will also have to analyze how the new concepts affect their operations and work towards obtaining quality and meaningful data from portfolio companies. The time and effort necessary to tackle this should not be underestimated.