European regulators go beyond ESMA list in naming rule enforcement

Many of Europe’s national financial regulators and overseers are planning to expand their enforcement of guidelines set by the European Securities and Markets Authority (ESMA) on the use of sustainability terms in fund names beyond the short list explicitly set out in the rules.f

The guidelines set out minimum exclusions for certain ESG-related terms, as well as requiring minimum levels of investment in line with environmental or social characteristics or sustainable investment objectives outlined in the investment strategy.

ESMA laid out the treatment of a number of terms such as “ESG”, “sustainable” and “impact” in the rules, but chose not to provide a comprehensive list.

Patrik Karlsson, senior policy officer at ESMA, told Responsible Investor last year: “With a closed list of terms there’s more certainty, but on the other hand it can also be an invitation to circumvent by using a term adjacent to one of those.”

Under the rules, funds are split in two broad groups.

Those using transition, social and governance-related terms should invest 80 percent of their AUM to meet environmental or social characteristic or sustainable investment objectives set out in the investment strategy and must also implement Climate Transition Benchmark-aligned exclusions.

Funds using “ESG”, “SRI” and other environmental or impact terms will have to implement Paris-aligned benchmark exclusions, while use of the term “sustainability” will require at least an 50 percent allocation to sustainable investments.

The rules have resulted in a radical reshaping of the ESG fund landscape in the EU. DWS said half its ESG ETFs have made changes, while BlackRock renamed 56 of its funds ahead of the deadline. Asset managers from Amundi to Federated Hermes have renamed or tweaked their funds.

Regulator perspective

RI spoke to more than a dozen regulators in the EU and European Economic Area about their approach to enforcing the rules, which came into force in November last year for new funds and will apply from 21 May for existing funds.

Many said they would examine terms on a case-by-case basis beyond the short list explicitly mentioned by ESMA.

Georg Lehecka, head of the sustainable finance hub at Austria’s Financial Market Authority (FMA), said the supervisor “does not provide an exhaustive list of all terms, as the terms always need to be viewed in context. What matters is the impression the term suggests to retail investors”.

FMA guidance issued in January sets out some of the terms the regulator would consider to fall within different categories of guidance, such as “human capital” as a social-related term.

It also indicated that “ethical” funds would be considered in the category for transition, social and governance funds.

This means funds with terms such as “responsible bond”, “ethical mix balanced” and “fair invest” would be considered in scope of the rules and would have to meet the less stringent exclusions criteria.

Belgium’s Financial Securities and Markets Authority (FSMA) put together its own in-house list of terms to consider.

A spokesperson for the regulator said the list “contains words that obviously go beyond the few examples cited in the guidelines” and had been supplemented from ESMA’s reports on greenwashing. Words could be added to the list in future, they added.

Similarly, Spain’s National Securities Market Commission (CNMV) set out a list of transition-related terms such as “development”, “evolution”, “transformation” and “improve” that it would look at as part of its supervision.

Regulators such as Italy’s CONSOB, Luxembourg’s CSSF and Denmark’s FSA were keen to emphasise that they will take a case-by-case approach.

“Market participants are expected to adopt a broader perspective by assessing whether the terms used in the name of the funds they manage carry an ESG connotation,” the Luxembourg regulator said.

Similarly Henrik Brarup Damgaard, head of ESG supervision at the Danish FSA, said it will evaluate the name of each fund individually.

Germany’s BaFin will examine beyond the ESMA list of terms “taking into account the specific case, to determine whether such terms clearly have a sustainability reference”, a spokesperson told RI.

However, some regulators said they were focusing on the list provided by ESMA in the first instance.

Bank of Lithuania will only look at the explicitly mentioned terms, a spokeperson said. Liechtenstein’s FMA, which will take a similar approach, said it will look at the English and German translations of the terms.

Investor impression

Many of Europe’s ESG or sustainable funds have ditched the terms set out in the guidelines in an attempt to avoid falling in scope of the rules. Some funds have renamed themselves to fall in the transition category while others have ditched “ESG” in favour of phrases such as “scored and screened” or “best in class”.

However, some regulators echoed the view of Austria’s FMA, saying that what mattered was the impression given to investors.

Britt Hjellegjerde, head of collective investment schemes at Norway’s Finanstilsynet, said the regulator will look at ESMA’s list, as well as terms “deemed likely to generate similar meaning, intent or investor expectations”.

Spain’s CNMV said that terms that “give the investor an impression of the promotion” of social or ESG features would be considered in its supervision.

In Croatia, the regulator HANFA said very few funds fell in scope of the rules or were expected to change their names, but that it expects to apply a “substance-over-form approach”.

“This means that additional terms implying sustainability characteristics, even if not explicitly listed, could fall within scope if they may mislead investors regarding the fund’s sustainability profile,” a spokesperson said.

Responsible uncertainty

There appears to be a divergence of opinion between countries on the treatment of the term “responsible”.

Denmark’s FSA said in August last year that it believes the term falls under the environmental and impact category as there is an “expectation” that the term “responsible” implies a “broader social responsibility, which can include several areas, including environmental matters, and thus not only the social or governance areas”.

Similarly, a spokesperson for Luxembourg’s CSSF and said that while “responsible” was not explicitly mentioned, it was referred to in ESMA’s inclusion of “socially responsible investing” as a term under the stricter environmental and impact category.

Marko Hovi, head of division investment products and services and capital markets at Finland’s FSA, said the regulator was taking a similar view, as did Belgium’s FSMA and the Spanish CNMV.

However, while there are no Malta-licensed funds using the term currently, an official at the Maltese MFSA said the term “could potentially fall in scope of the ‘transition-, social- and governance-related’ category”.

Similarly, BaFin assesses each case based on the specific circumstances of the case, so said a different assessment might be justified if relevant terms such as social responsibility are combined, while Austria’s FMA gave “responsible bond” as an example of an ethical fund.

Meanwhile, France’s AMF said the term could fall in any of the categories depending on what type of responsibility it was referring to, such as environmental or social responsibility.