The European Commission unveiled a significant rewrite of its ESG rulebook for the investment industry, marking the latest step in a fundamental overhaul designed to help improve competitiveness in the bloc.
In the proposal put forward on Thursday, the Sustainable Finance Disclosure Regulation (SFDR) will no longer require asset managers to report the negative environmental or social impacts of their entire portfolio. Instead, so-called exclusion thresholds will be introduced as part of a revised range of ESG fund categories, including one dedicated to environmental and social transitions.
“The current framework results in disclosures that are too long and complex, making it difficult for investors to understand and compare” products, the commission said in a statement. “The revised rules will be more retail friendly and usable for companies.”
The recommendations, which are largely similar to a draft leaked earlier this month, follow years of complaints from investors and even some national regulators over the existing framework. Fund-disclosure categories have been criticized for being confusing, while the pressure placed on portfolio managers to collect a large number of data points was regularly slammed as unrealistic.
The proposed changes, which still need approval from lawmakers and member states, represent an “earthquake” for the European Union’s financial industry, law firm Simmons & Simmons said in a comment based on the draft proposal.
The commission’s recommendations for reworking SFDR also apply to banks, insurers and pension funds, as well as asset managers. As a result, only the largest financial institutions will be required to report on the impact of their activities on the environment and society under a separate ESG directive known as the Corporate Sustainability Reporting Directive (CSRD).
Nonprofit groups criticized much of the proposal, warning it would leave investors without helpful data. They called on member states and lawmakers to reinstate the requirement that asset managers report on the negative impacts of their entire investment portfolios. They also want separate negative impact reports for all individual funds.
Dropping the so-called entity-level principal-adverse impact statements means “investors and consumers are left in the dark without the information needed to steer capital toward investments that genuinely support environmental and social goals,” said Isabella Ritter, senior EU policy officer at ShareAction, in a statement.
The commission also is recommending fossil fuel companies with expansion plans be excluded from the two greenest of the three new ESG fund categories. The World Wildlife Fund called the recommendation a “welcome step,” but added that oil and gas companies should be excluded entirely. Otherwise, “the climate credibility of the framework” is undermined, WWF said.
A hedge fund industry group said the proposed changes don’t go far enough. It had pushed for a provision that would give alternative-investment managers, whose clients are professional investors, the choice of not having to comply with SFDR. That opt-out option was included in an earlier commission draft. It was dropped in the latest version.
“It is understandable that this has raised eyebrows,” said Adam Jacobs-Dean, global head of markets at the London-based Alternative Investment Management Association. Still, it’s likely the question will be revisited as the final language of SFDR is hashed out in negotiations, he said.
The commission’s proposal is part of a broader overhaul of the EU’s ESG framework to streamline regulations and cut costs for businesses.
Last week, the European Parliament voted to dramatically reduce requirements under CSRD and the Corporate Sustainability Due Diligence Directive (CSDDD), with key lawmakers citing the need to improve European competitiveness. As a result, more than 90% of companies that were originally in scope of the directives will now no longer need to comply.