European Supervisory Authorities’ Joint Opinion on SFDR 2.0
On 18 June 2024, the European Supervisory Authorities (the “ESAs”) published a joint opinion (the “Opinion”) on their recommendations for the next iteration of the Sustainable Finance Disclosure Regulation (“SFDR”).
The SFDR has undergone wholesale consultation with the European Commission having sought feedback on whether the entire regime should be overhauled, or whether there should be an evolution of existing elements of the regime. The European Commission recently published a summary of feedback from respondents to the consultation papers, which set out a clear majority for a categorisation system of financial products with sustainability-related investment strategies, but divided opinion on whether this should build on the existing Article 6 (sustainability risks disclosures only), Article 8 (promotion of environmental and/or social characteristics, plus good governance) and Article 9 (sustainable investment objective), or introduce entirely new categories.
We set out here the ESA’s Opinion, which is strongly in favour of the latter with a fresh outlook on new SFDR categories. For new sustainability-related investment strategies for EU funds or non-EU funds to be marketed into the EU, the evolution of SFDR and the ESMA fund name guidelines are recommended to be monitored to support future-proofing strategies and to minimise the need for later updates.
The Opinion sets out two proposed categories, which the ESAs note are not intended to be “labels of excellence” or “best in class”, but rather to set minimum criteria:
The ESAs are not settled in the Opinion on the benefits and drawbacks of requiring a share of investments to comply with the requirements of the transition product category, with the option to subsequently increase that share over time. Instead, they request the European Commission reflects on this. Similarly, the Commission is requested to reflect on whether there could be a sub-category of “transition” for impact funds that offer solutions to sustainability-related problems, with a positive measurable impact on an environmental or social objective alongside a financial return.
With regards to social sustainable investments, the ESAs suggest that the European Commission sets sustainability metrics. Those suggested are the social PAI indicators, the European Sustainability Reporting Standards social data points (which would provide some alignment with the EU’s Corporate Sustainability Reporting Directive) and building out the good governance requirements (or a combination thereof).
The ESAs set out that there would be sustainability disclosures for uncategorised financial products that would vary depending on whether they had any “sustainability features” present. Those with sustainability features would be required to disclose those in pre-contractual disclosures, and those without would be required to have a prescribed disclaimer. The Opinion adds that such a disclaimer could be supplemented by some minimal disclosure on the product’s negative impact on sustainability.
The ESAs also propose a potential “sustainability indicator” to be considered for inclusion in a new SFDR regime, which could cover environmental or social sustainability, or both, illustrating to investors the sustainability features of a financial product in a scale that could simplify complex sustainability information in an easily digestible format for consumers.
They propose a variety of options for what such a sustainability indicator could cover, but do not land on a settled position. The ESAs also note that the development of a sustainability indicator is “not without risks and technical challenges”.
The Opinion sets out three options with regards to the sustainability indicator and proposed categories:
As with many areas, they leave these options to the European Commission to consider in terms of merit.
The Opinion sets out that the disclosures on how sustainability risks are integrated into investment decisions remain relevant and should continue to be disclosed for all financial products as they are now under Article 6 of SFDR.
The ESAs set out that there should be a prioritisation of only essential information for retail investors in simple, unambiguous, non-technical language, with an acknowledgement that professional investors may benefit from detailed, technical information. The ESAs also note their support of the establishment of a new system in SFDR that will aid in not giving false impressions about sustainability to end investors, and guide consumers in selecting financial products that meet their sustainability preferences.
It is unclear if the ESAs would prefer the European Commission to mandate the information requirements for both types of investors. Similarly, it is unclear whether the sustainability indicator, which is noted to be of particular intended benefit for retail investors, would be an envisaged requirement for professional investors as well.
The ESAs consider there to be merit in considering two approaches to PAIs:
The European Commission is requested to deliberate on making “consideration” of PAIs on sustainability factors compulsory for the proposed “Sustainability” product category, with “information” on PAIs being mandatory for the proposed “Transition” product category.
We note that they also suggest minimal disclosures to cover “information” about select key PAIs (which they do not specify in the Opinion) on priority indicators mandatory for all financial products — if this comes into force, it would increase the disclosure requirements for the current Article 6 products and many Article 8 products by compelling some PAI disclosures.
There is no set timeline for the European Commission to publish a proposed SFDR 2.0. We retain a watching brief on the next steps and any regulator papers on this position. However, with new categories proposed by the ESAs and also the French regulator (albeit with different categories), the momentum could now be gathering for the exit of Article 8 and Article 9 financial products and the entrance of a new categorisation system.