ESG update

This update seeks to outline significant sustainable finance and ESG developments in policy, regulation, legislation and the industry. Items are presented in reverse chronological order under each heading.

UK

• The Government designated 30 March as "Green Day" and published a raft of ESG-related announcements. The published documents included its long-awaited revised Green Finance Strategy, a consultation on regulating ESG ratings providers, a Net Zero Growth Plan, and an Energy Security Plan. The first of these two documents contain proposals that are directly relevant to asset managers and financial services. The announcements include a proposal to bring ESG ratings providers into the FCA’s regulatory perimeter (but not ESG data more generally and not managers’ internal proprietary ESG scoring); and states its intention to consult on requiring companies to disclose their net zero transition plans, on scope 3 emissions reporting, on climate adapation metrics and guidance, on a regulatory framework for investment stewardship, and on clarifying the fiduciary duty. The Government also confirm that it will consult on the UK’s Green Taxonomy in Autumn 2023, that it proposes to include nuclear power (initially announced at the Spring Budget on 15 March), and that it will be voluntary for the first two years after the rules are completed but it will become mandatory for larger companies thereafter. The Government will also consider in summer 2023 how to adopt the global ISSB standards into the UK’s disclosure regime. Finally, all three strategy documents contain information and proposals that are relevant to a range of asset classes and sectors, including real estate, infrastructure, and technology. To read more please see our latest in-depth Green Day summary.
• On 29 March, the FCA published an update stating that its Sustainability Disclosure Requirements (SDRs) final rules will not be published by 30 June 2023 (when the first component, the anti-greenwashing rule, was due to take effect) but its Policy Statement will be delayed until the third quarter. The FCA said that it will need more time to respond to the feedback that it received on its draft proposals, and the effective dates for the SDRs components will be adjusted accordingly. Specifically, the FCA will address concerns about fund labels, the qualifying criteria for ESG funds and the requirement for independent verification, and its marketing rules. The FCA will seek international alignment and will continue to engage with the industry as it works on its clarifications to the rules. As noted in the item below, on 9 March the FCA has also been under pressure from Parliamentarians.
• On 23 March, The Pensions Regulator (TPR) published the results of its review of the first round of TCFD implementation by the UK’s largest pension schemes. Schemes with greater than £5bn in assets were required to report from October 2021, while schemes with greater than £1bn in assets were subject to mandatory reporting from October 2022. The review of 45 schemes found good reporting in most cases and particularly on the governance and targets pillars, but some reports did not include the required information. Specifically, TPR pointed to omissions as to how climate-related risks were identified and who is responsible for addressing those risks, although most schemes disclosed how climate-related risks are managed. TPR also noted data-related challenges, particularly in relation to Scope 3 reporting.
• On 21 March, the FCA published the results of a preliminary review of ESG benchmark administrators, finding that the quality of their disclosures is “poor”. A letter was sent to firms detailing the issues identified: insufficient detail on ESG factors considered in benchmark methodologies, not ensuring that details about the methodologies are accessible, clearly presented, and explained to users, and failures to implement methodologies accurately (for example, using outdated data and scores). The FCA expects firms to address the issues and states that it will do more to address potential failings, including via the use of supervisory tools. The FCA has launched an expert group to work on a code of conduct for ESG data providers. As noted above, HM Treasury is consulting on bringing ESG ratings providers into FCA regulation and supervision.
• On 9 March, the Treasury Sub-Committee on Financial Services wrote to the CEO of the FCA, Nikhil Rathi, about the SDRs. The letter asks the FCA to respond by 23 March on several matters, including requesting a cost-benefit analysis on the SDR’s impacts on consumers and the impacts of the costs of divergence on firms, the FCA’s intended actions to enforce against greenwashing, and an assessment of the risks if the UK standards are too onerous for EU and US funds to comply with or choose to meet. The Sub-Committee was formed in response to the Financial Services and Markets Bill, which will reform the UK’s financial regulation structure after Brexit and which gives Parliament some responsibilities for holding the regulators accountable. The legislation is expected to receive Royal Assent in the coming weeks. The Sub-Committee’s membership is the same as that of the Treasury Select Committee, but it focuses solely on financial services matters and it is advised by two industry experts.

Europe ex UK

• The French AMF published research on the classification of funds under the SFDR. The paper found that 17 French Article 9 funds were invested in coal developers, more Article 8 and 9 bond funds were exposed to coal than Article 6 funds, the differences in fossil fuel exposures did not differ significantly between Article 6 and 8 funds, and that around half of the funds reviewed were exposed to fossil fuels. The AMF’s findings reinforce concerns about greenwashing and the regulator’s recent call for the European Commission to convert the SFDR into an explicit fund labelling regime (rather than solely a disclosure regime) as part of the SFDR legislative review that is due to begin later this year.
• On 29 March, EFRAG stated that its publication of the sector-specific European Sustainability Reporting Standards (ESRS) will be delayed. EFRAG has not confirmed its new timetable, but a recent board meeting suggested that the delay of the sectoral standards could be one year. The ESRS form the content of the EU’s Corporate Sustainability Reporting Directive, which is due to take effect from 2024.
• On 28 March, the European Council adopted legislation on net zero transition in transport. The rules will require new cars and vans registered in the EU to achieve net zero emissions from 2035, and a 55% reduction for cars and a 50% reduction for vans from 2030 compared with 2021 emissions levels. The legislation had been approved by the EU’s institutions in October 2022, but its final adoption had been delayed by Germany’s concerns about the implications for its automobile industry. The revised legislation will allow combustion engines to be used after 2035 but only if they run on carbon neutral fuels (e-fuels). The Council and European Parliament also reached a political agreement on legislation to mandate an increase in electic vehicle recharging and hydrogen refuelling stations across the EU. Further recent proposals from the European Commission include a Net-Zero Industry Act on developing the manufacturing of clean energy technologies, and a Green Claims Directive that will require non-financial companies to substantiate and verify their environmental claims. The raft of proposals form part of the EU’s Green Deal that has been given greater geo-political impetus in response to the passing of the Inflation Reduction Act in the US.
• On 23 March, the Sustainable Finance Advisory Committee of the German Federal Government published recommendations on the EU’s Green Taxonomy. The report proposes technical changes and clarifications to the EU Taxonomy and also calls for the creation of a Social Taxonomy. The EU has indefinitely paused plans for a Social Taxonomy with various reasons suggested including complexity, political challenges, and priority given to other ESG areas. The politically independent committee comprises experts from finance, industry, academia, and civil society and the group has been engaged with financial and non-financial companies and auditors to inform its recommendations.
• On 14 March, the European Parliament voted to adopt the Effort Sharing Regulation. The legislation will require EU Member States to reduce their emissions by 40% by 2030, up from 30% as previously required. The 40% commitment is compared with 2005 emissions levels, while the 30% commitment was linked to 1990 as the baseline year. The European Council will now vote on the legislation.
• On 13 March, the ECB and the ESAs issued a joint statement calling for climate-related disclosure requirements for structured products. The statement says that a lack of climate data poses problems for compliance with, and the classification of products under, the SFDR and the Taxonomy. The authorities argue that data on the underlying assets would enhance transparency for the assessment of climate-related risks. The statement also says that ESMA is working with national authorities on climate-related disclosures for securitised assets.
• On 8 March, the European Commission wrote to the ESAs to request that they undertake a one-off climate scenario analysis of the EU’s financial system, in cooperation with the ECB and the ESRB. The Commission asks that the exercise “goes beyond the usual climate stress tests” to provide a cross-sectoral analysis and determine the extent to which the system can support sustainable investment while under stress. The Commission has asked for “policy-relevant conclusions” before Q1 2025.

North America

• On 20 March, President Biden issued his first veto to prevent Congressional Repubicans from overturning a Department of Labour ESG rule. The rule would permit ERISA plans to consider ESG factors in their investment processes. The Biden Administration’s rule itself overturns the Trump Administration’s Department of Labor rule that banned ERISA plans from considering non-financial factors such as ESG considerations as part of their investment decision-making. In a message accompanying the veto, the President argued that factors such as physical adaption to climate change and poor corporate governance could negatively affect investment returns, rather than the rule resulting in a financial sacrifice to achieve non-financial objectives.
• On 16 March, the Republican governors of 19 states announced the creation of an alliance led by Florida Governor Ron De Santis to combat the growth of ESG. The alliance has stated its policy proposals to protect individuals (specifically referring to taxpayers and and to citizens) from the consequences of ESG, including banning state and local pension funds from considering ESG factors in their investment decision-making and banning the consideration of ESG in municipal bond issuance. The participating state governors include Alabama, Alaska, Arkansas, Florida, Georgia, Idaho, Iowa, Mississippi, Missouri, Montana, Nebraska, New Hampshire, North Dakota, Oklahoma, South Dakota, Tennessee, Utah, West Virginia, and Wyoming.
• On 15 March, the Climate Corporate Data Accountability Act was approved by the California Senate’s Environmental Quality Committee. An estimated 5400 California-based companies with revenues greater than $1bn would be required to report Scope 1 to 3 emissions. The bill will go to the judicial committee for a second hearing.
• On 8 March, Kansas proposed the Kansas Protection of Pensions and Businesses Against Ideological Interference Act, described by its Attorney General as “the strongest anti-ESG bill in the country”. The legislation would ban state pension funds and suppliers from integrating ESG considerations into their businesses. It would require the state’s pension scheme to divest from companies engaged in “ideological boycotts” and would ban blacklisted banks from receving state deposits. Registered investment advisers in the state would also be required to receive explicit written approval from their clients before making investments in ESG-aligned funds. The Kansas budget division estimates a $3.6bn reduction in returns for the state’s pension system.
• On 8 March, the Biden Administration announced $6bn in federal funding to scale industrial decarbonisation projects. The Industrial Demonstrations Program targets sectors that face challenges in reducing emissions, such as iron, steel, and cement.
• On 8 March, PwC and Workiva published the results of a survey that suggests 98% of public companies might opt to comply with the SEC’s climate disclosure rule before the regulation takes effect. The survey sample comprised 300 senior executives at US public companies with revenue greater than $500m.
• On 8 March, Canada’s OFSI issued new guidelines that require banks and insurers to manage and disclose climate-related risks. Larger institutions must report from the fiscal year 2024 and smaller institutions from 2025. The reporting requirements are aligned to the TCFD, and also require the disclosure of firms’ public commitments such as membership of the Net Zero Alliance.

APAC and MENA

• On 27 March, the Australian Sustainable Finance Initiative (ASFI), a sustainable finance industry group, published an update on its development of a taxonomy for the country. The update notes that the response to its draft recommendations published in December demonstrates a broad consensus for the creation of a taxonomy and for the organisation’s proposals. The ASFI states that the exercise sets the groundwork for a collaboration between the finance sector, government, and regulators.
• On 2 March, the Australian Competition and Consumer Commission (ACCC) said that over half of the companies that it has reviewed might be greenwashing. The ACCC’s statement was based on an internet sweep of 247 companies’ sustainability-related claims, which found 57% “concerning”. As a result, the ACCC said that its greenwashing investigations activity, some of which is already underway, will grow.

Market intelligence

• On 29 March, the Net Zero Asset Owner Alliance (NZAOA) published a position paper, stating its expectation that NZAOA members will not invest in the development of new oil and gas infrastructure.
• On 29 March, LGIM published research for professional investors on the net zero transition by 2050. The 2022 Climate Scenarios Whitepaper explores a range of issues relating to climate scenarios and their implications. The report states that a delayed transition to net zero could reduce the value of equities by a third compared with a timely transition.
• On 28 March, the Taskforce on Nature-related Financial Disclosures (TNFD) published a fourth and final draft of its disclosure framework. The final TNFD framework is due to be published in September and aims to provide a global harmonised baseline for biodiversity-related reporting, modelled on the TCFD approach to climate-related reporting. There are indications that the UK and other jurisdictions might mandate TNFD reporting by financial institutions.
• On 27 March, Federated Hermes' launched its Sustainable Global Investment Grade Credit Fund. The Article 9 fund aims at total return and to reduce carbon, water use, and waste.
• On 27 March, the Institutional Investors Group on Climate Change (IIGCC) launched the Net Zero Engagement Initiative (NZEI). The initial group comprises 93 investors that aim to deepen corporate engagement on climate-related matters. The initiative began with letters sent to 107 companies, detailing NZEI’s expectations for credible net zero plans including commitments, targets, performance tracking, and a decarbonization strategy.
• On 23 March, the World Federation of Exchanges published the world’s first green equity principles, a framework by which to judge whether shares can be deemed to be sustainable. The Green Equity Principles cover revenues, investments, the use of taxonomies, governance, assessment, and disclosure.
• The IFRS has confirmed a new project to improve the reporting of climate-related risks in financial statements. The International Accounting Standards Board (IASB) produces the IFRS Accounting Standards used for financial accounting and will broaden its scope to consider climate-related risks. The International Sustainability Standards Board (ISSB), which also operates under IFRS, is working in parallel to conclude its non-financial reporting standards, providing a new global baseline for corporate sustainability reporting. One issue that the IASB will consider is whether scenario planning under the ISSB standard could inform the reporting of assets and liabilities under the IFRS Accounting Standards. The IASB will develop a work plan and consult stakeholders in due course.
• On 22 March, Carne appointed Amundi as the investment manager of a new Asia Climate Bond strategy launched by AMX in March. The strategy will invest in fixed income selected according to the Asian Infrastructure Investment Bank/Amundi’s co-developed Climate Change Investment Framework. The framework provides a benchmark by which to judge issuers against the Paris Agreement.
• On 21 March, HSBC Asset Management launched the Euro ESG Liquidity Fund. The Irish-domiciled LVNAV is an Article 8 product. The fund will invest in issuers with an A1, P1, or F1 rating or long term equivalent.
• On 15 March, Fitch warned that European banks face an increased risk of ESG-related litigation. Fitch cites increased activity by NGOs, a complex legal environment, public commitments made by banks, and the recent lawsuit brought against BNP Paribas. Fitch states that the purpose of legal action is to cause reputational damage to banks and to incentivise those institutions to undertake specific actions such as reducing exposures to fossil fuels.
• On 15 March, ISS issued global board aligned proxy voting guidelines. The US and international voting policies provide guidelines to investors on how to vote in respect of corporate governance principles, and in response to board-proposed ESG recommendations.
• On 13 March, reports based on Morningstar data indicated that 263 Article 8 funds and 29 Article 9 funds had holdings in the failed Silicon Valley Bank.
• On 9 March, Franklin Templeton launched the Franklin MSCI Emerging Markets Paris Aligned Climate UCITS ETF. The Article 8 fund will track the MSCI Emerging Markets Climate Paris Aligned Index, investing in emerging market instruments that support a transition to a low carbon economy. The MSCI benchmark is an EU Paris Aligned Benchmark, requiring an annual 7% reduction in emissions intensity, and the index also incorporates TCFD recommendations. The fund is the fourth Franklin Templeton Paris Aligned ETF.
• On 8 March, Share Action published a study that found a significant increase in asset managers undertaking ESG-related voting policies and stewardship activities. However, the report also found that almost half of managers’ policies lack an adequate mechanism for escalation if engagement with a company fails to achieve its objectives . The report examined the activities of the world’s 77 largest managers over the past two years. In addition, on 27 March, Share Action published a report on the contribution of pesticides to the global decline in biodiversity and called on investors to engage with and apply pressure to the pesticides industry.
• The Partnership for Carbon Accounting Financials, the Carbon Real Estate Risk Monitor, and GRESB have jointly published a guide for financial institutions about accounting and reporting greenhouse gas emissions from real estate operations.
• CDP’s Supply Chain Report 2022 states that only 41% of companies report on at least one aspect of Scope 3 emissions in respect of their supply chains. The report also states that Scope 3 targets comprise only 15% of new or in progress emissions targets. CDP warns that the low figures are despite upcoming regulations and that Scope 3 emissions comprise the majority of a company’s total emissions. The report cites issues around data availability and quality, and the changing regulatory environment as challenges for companies’ Scope 3 reporting.