On 25 May 2022, the European Supervisory Authorities ("ESAs") published the European Commission's ("Commission") responses to their questions related to the implementation of the Sustainable Finance Disclosure Regulation ("SFDR") and Taxonomy Regulation1 . The Commission's statements in relation to: the consideration of principal adverse impacts at product level; what brings Article 8 SFDR funds within scope of the Taxonomy Regulation disclosure requirements and the nature of those disclosures; and good governance practices of investee companies, will be of particular interest to fund management companies.
This was followed by further guidance from the European Securities and Markets Authority ("ESMA") on 31 May 2022, in the form of a supervisory briefing on sustainability risks and disclosures in the area of investment management (the "Supervisory Briefing"). The Supervisory Briefing is directed at national competent authorities ("NCAs"), but will be informative for fund managers as regards the supervisory expectations in relation to the implementation of the SFDR and Taxonomy Regulation requirements.
Principal Adverse Impact Disclosures at Entity / Product Level
The ESAs asked the Commission whether financial market participants ("FMPs") that do not consider principal adverse impacts ("PAI") under Article 4 SFDR may indicate that they do consider PAI at product level only for a certain subset of financial products. The ESAs queried whether an FMP may not consider PAI at entity level but still consider PAI under Article 7 SFDR for some of the products it manages, and if so, can they disclose this under Article 4 SFDR.
The Commission has stated that, where an FMP does not consider PAI under Article 4 SFDR, it may still provide a product that "pursues a reduction of negative externalities caused by the investments underlying that product".
In the context of funds that "opt-out" of Article 4 SFDR and choose to provide clear reasons why they do not consider PAI, the Commission states, "A financial product pursuing a reduction of negative externalities caused by investments underlying the product must not be part of such entity level information".
This would appear to confirm that a fund may consider PAI where there is no corresponding positive entity level disclosure under Article 4 SFDR. Due to the language chosen by the Commission – ie, the reference to "products pursuing the reduction of negative externalities caused by the investments underlying that product" as opposed to "products which consider PAI" – the Commission appears to be attempting to facilitate product level disclosure, notwithstanding that the potential interaction of Articles 4 and 7 SFDR might have precluded such an approach. So, while an FMP may not be able to make an Article 7 disclosure in relation to a fund when it has not made an entity level disclosure under Article 4(1)(a), the Commission has indicated that the more general product level disclosures under Articles 6(1) and (3) can include information on how it considers or has considered the PAI on sustainability factors of a fund that pursues a reduction of negative externalities caused by the investment underlying the product.
While the introduction of a new concept of a "financial product that pursues a reduction of negative externalities caused by the investments underlying that product" potentially adds to the complexity of an already challenging body of regulation, the potential for FMPs to be permitted to make product level disclosures, where there is no corresponding entity level disclosure under Article 4, is to be welcomed. This is particularly the case as it may facilitate such a fund coming within the criteria for financial products meeting clients' sustainability preferences under the revised suitability rules under MiFID II, which will apply from 2 August 2022.2
1 The ESAs' published questions are dated 13 May 2022, but they were sent to the Commission in late 2021.
2 Commission Delegated Regulation (EU) 2021/1253 (available here).
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