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Greenwashing worries cloud ESG boom

Greenwashing worries cloud ESG boom

Sustainable investing offers asset management an opportunity to assert its relevance by enabling investors to meet ethical as well as financial goals.
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Yet greenwashing risk casts a menacing shadow over this outlook as the industry comes to terms with this new environment.

“We know that there are still issues of interpretation of the new regulations, and that in turn leads to non-harmonised implementation of the sustainability disclosures,” said ALFI chair Corinne Lamesch speaking to the Global Distribution Conference on 20th September. “We know that this in turn will lead to greenwashing accusations with related concerns about reputational risk for our industry,” she added.

Risk on both ends

Such concerns became stark reality on 31st May when Germany’s largest asset manager DWS and its parent Deutsche Bank were raided by police in Frankfurt, as part of on-going investigations into allegations about potentially misleading ESG investing claims. These raids led to the resignation of the DWS CEO. Although this was yet another difficult moment in recent troubled years for Deutsche Bank, it sent a shock through the asset management community.

Missing market opportunities by being over cautious is also a risk. “I am sometimes irritated by those who over inflate small issues or imperfections in this area,” said CSSF CEO Claude Marx speaking about ESG regulation to the ALFI European Asset Management conference in March this year. “Focus on identifying the right data sources and prepare your systems to make good use of them,” he went on.

Good faith required

If asset managers can show they have made good faith attempts to comply then supervisors will be understanding. “The regulator will not expect from you to do the impossible,” he said, adding that if demonstrable good faith efforts are made “then I think you are going to be on the safe side as far as green washing accusations are concerned. ”Which might be OK as far as the regulators go, but asset managers are also being judged in the court of popular opinion.

“In the early stages of SFDR [Sustainable Finance Disclosure Regulation] implementation, sales forces were pushing for article 9 products to be developed, with the tone often set by the distribution teams, as having an ESG element makes funds easier to commercialise,” said Alan Picone, Partner, Asset Management Risk Advisory at KPMG in Luxembourg. “However, to this, compliance professionals responded with concerns. It was a monologue that evolved into a dialogue,” he added.

He was referring to the article 9 products which have an explicit green-impact goal by targeting sustainable investments. These funds compare to article 8 funds which are less green but still “environmental and socially promoting”. Article 6 funds are not required to integrate any kind of sustainability into the investment process. Asset managers have to chose into which category each of their funds fall.

Or is luck also needed?

“I recall a conversation with client who explained why they had no article 9 funds,” he added. “I was told ‘there's no benefit to be the first one moving in the minefield. As much as we want to do article 9, we feel we are not equipped, compliance wise, to the standards required.’’’ According too Julie Castiaux, an Associate Partner at KMPG Luxembourg “funds have to demonstrate not only compliance, but that they are adapting their operating models to integrate that extra financial information, but not designing a new business model on top of the existing one.”

The consensus of recent market surveys suggests that about half of European funds are now classified as article 8 or 9. For example, Morningstar data says that at the end of June this year 45.9% of funds had been classified as article 8 products, 5.0% article 9 with the remainder article 6. Out of their survey of over 70,000 products, the data provider found that more than 700 products changed SFDR status in the second quarter, mostly with upgrades from Article 6 to 8. There were just 16 downgrades from Article 9 to 8. No funds went from Article 8 or 9 to Article 6.

MiFID increasing focus

It is a general expectation that the amended Markets in Financial Instruments Directive II (MiFID II) coming into force on 2 August will drive retail investor’s awareness and demand for sustainable funds. “There is no higher link between the asset manager and investors than the requirement in  MiFID II to assess their ESG preferences,” said Castiaux. “The result is that communication between the distributors, the asset manager, and the investor will continue to increase,” she added.

Yet with this guidance will come expectations, and with that extra greenwashing risk. “No one comes with a strategy of greenwashing, but firms may have different risk anticipations beforehand regarding ESG compliance,” said Picone. Understanding where to draw the line between green and not green can be a challenge for the asset manager, let alone the client.

Learning experience for all

Despite these concerns, the momentum towards greening the product offering is clear. A PwC Luxembourg survey** suggested that over two-thirds of European asset managers and distributors are considering halting the launch or distribution of products that do not comply with environmental, social and governance (ESG) standards, with most of this number planning to do so by the end of 2024.

“We need to complement our sustainable finance ambitions with investor education,” Lamesch told the recent ALFI conference. “We all have a role to play because the investor is still very far away from what we're trying to achieve here,” she added. She might have added that non-ESG natives in the financial sector also have a lot to learn. 

*Morningstar Manager Research July 2022

** ESG Opportunity in Europe June 2022

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