The Financial Conduct Authority (FCA) has released its final policy statement on the Sustainability Disclosure Requirements (SDR) today (28 November), which includes an additional label under called ‘Sustainability Mixed Goals'.
The new label will bring the total number to four and will address issues arising in the consultation process about multi-asset and blended strategies, which did not fit into the previous three categories.
Following feedback, the FCA has also removed the word "sustainable" from the labels and replaced it with "sustainability", to reflect how some assets are "on a journey to becoming sustainable".
As a result, the updated labels will be called: Sustainability Impact; Sustainability Focus; Sustainability Improvers; and Sustainability Mixed Goals.
Previously, the labels were proposed as Sustainable Focus, Sustainable Improvers and Sustainable Impact.
The regulator also confirmed it will introduce a 70% threshold across all labels, which will require firms to have at least 70% of the gross value of the product's assets invested in line with its sustainability objective.
Anti-greenwashing rules coming next year
Alongside the four labels, the FCA will introduce anti-greenwashing and naming and marketing rules. The former will be open for consultation until 26 January 2024 and will come into force at the end of May 2024, requiring firms to make fair, clear and non-misleading claims on the sustainability profile of their products and services.
The latter specifies that any product with sustainability-related terms in their names must be reflected in their sustainability characteristics, which should also be marketed accordingly and in line with the anti-greenwashing rule.
Its labelling rules will follow the anti-greenwashing directive, and come into force on 31 July 2024.
The FCA explained SDR only currently applies to UK asset managers. It will consult on proposals for portfolio management, including managed portfolios and discretionary wealth management services, in early 2024.
The FCA has also said it plans to set up an independent working group for the financial advice industry to work together to build on existing capabilities in sustainable finance, including how the SDR and labels support their role. The regulator said it continues to explore how to clarify its expectations for advisers around taking sustainability matters into account in investment advice and suitability.
The FCA's package of measures is aimed at improving trust in the sustainability sector for consumers and minimise greenwashing.
It estimated there are $18.4trn (£14.5trn) of ESG-orientated assets being managed globally, but found that consumers were not confident that sustainability-related claims made about investments were genuine.
Director of ESG Sacha Sadan said: "We are putting in place a simple, easy to understand regime so investors can judge whether funds meet their investment needs - this is a crucial step for consumer protection as sustainable investment grows in popularity.
"By improving trust in the sustainable investment market, the UK will be able to maintain its position at the forefront of sustainable finance, and capture the benefits of being a leading international centre of investment."
Breaking down the labels
Asset managers are expected to introduce the four labels to any relevant funds from the end of July 2024.
In the application of the labels, the FCA has removed the word "credible" when describing standards, replacing it with a "robust, evidence-based standard that is an absolute measure of sustainability", following industry feedback.
The labels have been detailed as follows:
- Sustainability Focus: Applicable to products investing mainly in assets that are sustainable for people and/or the planet. Firms will be tasked to set their own "robust, evidence-based" standards to ensure they align with the product's sustainability objectives.
- Sustainability Improvers: Applicable to funds investing in assets that may not be sustainable now, but aim to improve their sustainability for people and/or the planet over time, including in response to the firm's stewardship influence. This category focuses on the assets' potential to meet the standards over time, placing an even higher emphasis on firms' asset selection processes.
- Sustainability Impact: Applicable to funds investing in solutions to problems impacting people or the planet to achieve "real-world impact". These products will need to have an explicit objective to achieve a positive and measurable contribution to sustainability outcomes.
- Sustainability Mixed Goals: Applicable to funds investing across different sustainability objectives and strategies aligned with the other three categories. This means firms will also need to disclose details of the proportion of assets invested "in accordance with each relevant label".
The introduction of the fourth label has contributed to an increase in the estimated number of funds that will fall under SDR's remit, rising from 450 to 630. This is because more funds will be eligible for a label, an outcome the FCA said would likely result in a higher uptake of labelling.
The FCA also estimated that 45% of the 630 products and corresponding firms will start using sustainability investment labels, with the remaining 55% subject to the naming and marketing rules.
All funds under the four labels will be subject to its 70% minimum threshold rule. The regulator said funds may invest in other assets for liquidity and risk management purposes, "so long as 70% of the gross value of the product's assets are invested in line with the sustainability objective".
The regulator explained the threshold takes into account sustainability-related rules or guidance present in other jurisdictions. For instance, the European Securities and Markets Authority and the US Securities and Exchange Commission proposed an 80% minimum threshold for fund naming rules, while the Monetary Authority of Singapore opted for a 66% limit.
However, the FCA clarified there are exceptions to the 70% rule.
For example, if products are designed to "build their natural portfolio over time" and are yet to fully invest in assets, or if a firm is carrying out its escalation plan or taking action to meet the criteria on an ongoing basis.
The regulator noted the LTAF would be one such fund structure that would be excluded from the 70% threshold, as a result.
In addition, the FCA said in the policy paper that some stakeholders suggested it should prevent firms from investing in certain assets in sustainability-labelled funds, such as those relating to tobacco or fossil fuels. In response, the FCA said it is for firms to determine what assets their products invest in. However, it will introduce a rule that requires firms to identify and disclose (in their consumer-facing and precontractual disclosures) if pursuing the positive outcome could result in negative environmental and/or social outcomes.
A three-year timeline
The FCA has provided a timeline for the rollout of SDR, which will take around three years to complete.
The first deadline is 31 May 2024, when the anti-greenwashing rules will come into place. These will be applicable not just to asset managers but to all regulated firms, the regulator noted.
On 31 July 2024, the labelling regime will become effective, with firms expected to begin using labels alongside the relevant disclosures.
The naming and marketing rules will follow, with the implementation date set for 2 December 2024, alongside accompanying disclosures.
The remaining two deadlines arrive on 2 December 2025 and 2 December 2026.
In December 2025, the ongoing product-level and entity-level disclosures will come into force for firms with more than £50bn in assets under management (AUM), while entity-level disclosure rules for firms with more than £5bn AUM will be introduced on 2 December 2026.
A post-implementation review will take place after three years to assess if the FCA's intervention "has met its intended outcomes, identify implementation issues and potential unintended consequences", as well as to assess overall compliance with the rules.
Greenwashing rule and marketing requirements
The anti-greenwashing rule will be applicable to all authorised firms, the four investment labels and to the naming and marketing rules that will follow.
Originally, the FCA intended to implement the anti-greenwashing rule immediately after the publication of the SDR policy statement.
However, industry feedback asked for additional guidance on this, and as a result the FCA will now consult on the anti-greenwashing rules. Replies can be submitted until 26 January 2024.
Meanwhile, the naming and marketing rules will centre on consumer protection, in light of the introduction of Consumer Duty in July 2023.
The FCA will expect firms to be able to "accurately describe their products so that consumers are able to navigate to those that meet their needs and preferences".
Firms will be able to continue to use sustainability-related terms in their marketing if certain conditions are met. For instance, they will need to produce disclosures and a statement clarifying that the product does not use a label and explain why that is the case.
Expected costs
The FCA has also today released its revised cost benefit analysis for the implementation of SDR.
The regulator estimated a total one-off cost to the industry of around £204.8m, with an ongoing annual cost of £34.2m.
Its cost projections increased due to changes following stakeholder feedback and because of the increase in the number of funds falling under SDR's remit.
The FCA added the regime will not require consumers to switch funds, meaning it has not included any monetary costs consumers will incur when switching products, despite recent pressure in this area from the Treasury Sub-Committee on Financial Services Regulation.
It explained: "Following the introduction of the regime, any choice to switch from an unlabelled product to a labelled one will be an individual consumer's decision, and will likely be based on several factors, which may include consideration of switching costs."
Supervision and enforcement
Supervision and enforcement of SDR will take place in several different ways, the FCA explained.
Challenging the inappropriate use of labels, alongside monitoring and supervision, will take place at the fund's authorisation gateway, which will also be informed by market intelligence.
The usefulness of the regime to consumers will be assessed via the FCA's Financial Lives survey, which will be examined alongside other sources of consumer research, including the Financial Services Consumer Panel, FCA Consumer Network, Good With Money and Which?.
Greenwashing claims will be monitored via complaints to the supervision hub, intelligence gathered on quality applications to fund authorisations and broader supervisory intelligence.
