Wall Street needs to watch the European Union’s early efforts to regulate what counts as sustainable investing. EU standards could easily end up as the global norm.
From this week, money managers selling financial products into the bloc must publish information to back up the sustainability claims of both their company and individual products. Unlike other guidelines around the globe, the EU rules are mandatory for a range of financial investors, including asset managers, insurers, hedge funds and pensions. Initial requirements are woolly, but sharper ones will follow.
Given the rapid growth in ESG investing—which uses environmental, social and governance criteria—many jurisdictions are considering their own mandatory reporting standards. The EU’s lead could well make it the starting point for global regulation, as previously happened with its GDPR rules for data privacy and REACH standards for chemicals. In recent quarters, far more funds have been launched with sustainability claims in Europe than elsewhere.
The Sustainable Finance Disclosure Regulation requires institutional investors to publish ESG-related risks and impacts and to categorize their products into one of three types, ranging from those that don’t consider sustainability to those for which it is a central objective. Promoters have to explain why a product deserves one of the two greener tags. National regulators will oversee enforcement.
From January, fund managers and other investors will also need to publish a prescribed list of quantitative metrics, including carbon footprint, greenhouse-gas emissions, and hazardous waste emissions. The details are still being completed, but the rules should ideally cover individual funds, to give buyers solid information for comparisons between products.
The ESG reporting burden on companies and funds will inevitably grow. In the near term, asset managers may struggle with compliance if many of their investee companies don’t yet publish the necessary data. The EU will propose revised rules in April to increase companies’ nonfinancial disclosure requirements, which should help. Companies should be gathering the relevant information anyway, given the financial risks associated with rising carbon prices, stranded assets and extreme weather events.
Disclosure can be a powerful policy tool. A recent study by the Banque de France found that investors subject to its 2016 sustainability reporting rules cut their financing of fossil fuel companies by nearly 40% compared with domestic and international groups not covered by the rules.
The initiatives are part of a larger EU push to attract green investment to help meet its 2050 net-zero promise on carbon emissions. A coming EU taxonomy will define what is and isn’t green and the reporting rules are likely to be revised as the market develops.
Singapore is consulting on its own guidelines. President Biden’s green push hints that this type of disclosure might be on the U.S. agenda too. The U.K. government is eager to make London a green-investment hub and is working on its own sustainability disclosure standards. These would build on 2020’s announcement that British companies and funds will have to publish largely qualitative information on their global warming risks and impacts.
The EU rules will evolve and it is possible that other jurisdictions will take a different tack. But if history is a good guide, early movers set the regulatory baseline. The U.S. should pay attention.
Write to Rochelle Toplensky at email@example.com
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