Investors in France hold their breath as stricter rules and fund labels loom

France’s markets watchdog has called for stricter labelling of sustainable funds to better assess financial players’ commitment to sustainability.

The proposals come in addition to the current regulatory framework with the main aim to alleviate market confusion around sustainability practices.

In a recent position paper, the Autorité des Marchés Financiers (AMF) said that the Sustainable Finance Disclosure Regulation (SFDR) was not providing a sufficiently clear definition of sustainable investment.

The SFDR rules were introduced by the European Commission (EC) in 2019 as an environmental, social and governance (ESG) transparency regime for financial products.

“Contrary to a labelling mechanism, SFDR does not set out any minimum expectations and only requires financial actors to disclose information about their claims and practices on sustainability matters,” the AMF explained in its report. 

“Thus, it appears that SFDR has created a gap between the reasonable expectations expressed by investors and the reality of the practices and fuelled the greenwashing.”

ESG risks

SFDR, which came into effect in 2021, requires asset managers and other financial players to inform of ESG risks in a bid to promote sustainable investments and discourage greenwashing practices at a time when regulators, investors and consumers agree on the need to increase disclosure transparency in the sector.

The European Securities and Markets Authority (ESMA) stated in a risk monitor report early February that since then, many funds had “upgraded” their SFDR status, sparking worries over the lack of clarity surrounding sustainable investments.

Although the entry into force of SFDR Level 2 standards in January prompted fund managers to scale back their ambitions against potential accusations of greenwash, France’s regulatory authority said that the EC needed to introduce minimum environmental criteria for financial entities and products to meet in order to be categorised Articles 8 or 9 funds under SFDR.

‘Marketing tool’

Art. 8 funds promote transparency in environmental and social characteristics provided that companies targeted for investments also follow good governance practices. Those defined by Art. 9 have sustainable investment as their objective. For the AMF, criteria attached to the Art. 9 category need to remain more stringent than those of Art. 8.

“The vague definition of sustainable investment should be clarified to become tangible,” it further claimed, and be built on target requirements which “should consist of a minimum product alignment with the EU Taxonomy” – a classification system that spells out environmentally sustainable economic activities.

According to the ESMA, “the misuse of SFDR as a marketing tool could create potential risks to investors as demand for sustainable products remains strong” when it should instead increase European savers’ confidence in investing in the low-carbon transition.

“Art. 8 and 9 are rather new regulations and may not have been understood properly by everyone,” investment analyst at Atlantic Financial Group Stéphanie Rheinboldt explained to Net Zero Investor in an email. 

“It was until recently a subject for interpretation. In this case, it is normal for companies to try to get a higher standard,” she claimed.

At the end of December, the assets under management (AuM) of funds classified as Art. 8 or Art. 9 had accounted for 55% of regulated funds in Europe, she also flagged in a report released in February. 

“Anxious to offer products labelled ‘green’ to clients,” BlackRock, Amundi, DWS and others had wrongly classified their funds, leading them to downgrade billions of euros of Art. 9 funds.

“Asset managers realised that they did not necessarily fit into Art. 9,” Rheinboldt said, adding that 307 funds had moved to an Art. 8 classification from the more ambitious Art. 9 one, representing 175bn euros of assets or 40% of Art. 9 funds.

‘The way to go’

Art. 8 and Art. 9 product manufacturers should also be asked to adopt a binding ESG approach when making investment decisions related to the underlying assets of these products, the French regulator said.

For Rheinboldt, both ESG and sustainability need to be increasingly defined with additional labels and specific requirements.

“The transition toward more ESG, more sustainable finance will initially be promoted by large institutional investors, like insurance companies and pension funds. This is the way to go,” she stated. “The gap will close by itself, but best practices have to be proofed by professional investors first-hand.”

Rheinboldt also pointed out in her report that regulators were currently developing national mandatory product labels on top of SFDR, like the “LuxFLAG” in Luxembourg or the “Nordic Swan Ecolabel” based in Sweden.

In France, the AMF’s doctrine introduced in 2020 aims at “ensuring the proportionality between the reality of non-financial criteria taken into account in the fund’s asset management and the place reserved for this criteria in investor communication.”

The French regulator also recommended that Art. 9 products exclude investments in fossil fuel sector activities that are not aligned with the EU Taxonomy.

For Art. 8, “investments in such activities are possible provided strict conditions are met that guarantee that such activities are committed to an orderly transition."

“This proposal aims to initiate discussions on minimum standards in the perspective of the announced review of SFDR,” it said.

Asked about the consequences for companies that could decide not to follow these rules, Rheinboldt said that for now, they would remain under Art. 6 funds, which do not integrate sustainability risks and, as such, include stocks excluded by ESG funds.

“It is still to the investors discretion to decide on its investments’ criteria,” she noted. “Some institutional investors could say their fund does not qualify in their list of selected investments, so the only real current risk is to see AuM decline.”