On 14 September 2023, the European Commission (Commission) launched a public consultation on the SFDR framework (Consultation).
While the timeframe for implementation of any changes to the SFDR has not yet been confirmed by the Commission, the Consultation does demonstrate that the Commission is cognisant of the real challenges currently being faced by financial market participants in seeking to comply with the framework as its questions identify many of the perceived deficiencies in the existing framework, including a lack of legal clarity on some of the key concepts introduced under the SFDR, significant data challenges, high implementation costs and an inconsistent application of the rules across EU Member States.
The Consultation also provides some interesting insights as to the possible direction of travel for future reforms of the SFDR which are outlined below.
Key Takeaways from Consultation
Introduction of Product Categorisation Framework
In an acknowledgement that the SFDR has been used as a de-facto labelling regime and in order to counter the emergence of sustainability labels by certain EU Member States since the SFDR was implemented in 2021, the Commission has consulted on two possible product categorisation frameworks.
(i) The first of these is to convert Articles 8 and 9 of the SFDR into formal product categories. This would involve developing the distinction between the two types of products as well as (i) clarifying existing concepts such as "environmental/social characteristics", "sustainable investment" and "do no significant harm" and (ii) introducing minimum sustainability criteria for each product to more clearly define the types of products falling within each category. If implemented, this proposal could result in financial market participants being required to re-classify existing products as a result of not being able to meet any newly introduced sustainability criteria.
(ii) The second alternative proposed by the Commission in the Consultation is the creation of an entirely new product categorisation framework focused on the investment strategy of the product in question. The Commission has sought feedback on four possible categories (as well as what minimum criteria should be applied for each category) within such framework as follows:
- Products which invest in assets which specifically strive to offer solutions to sustainability related problems (i.e. impact products);
- Products which aim to meet specific sustainability standards/adhere to a sustainability-related theme1;
- Exclusion products; and
- Transition products.
Third Party Assurance Framework for Product Categorisation
The Commission is also contemplating the introduction of a mandatory requirement for third-party verification of product categorisation under which the alignment of the product with the product categorisation is assessed and verified by a third-party assurance provider who is also obliged to monitor ongoing compliance with the product categorisation thereafter.
Uniform Disclosure Obligations Applicable to All Products
The Commission has also raised the possibility of all funds offered within the EU (which will therefore include non-EU funds offered to EU investors) being subject to certain uniform disclosure obligations, regardless of whether or not they implement an ESG investment strategy so as to make it easier for investors to understand the sustainability-related profile of the relevant product.
It has also asked for feedback on whether such uniform disclosure obligations should only be triggered where a fund is, for example, intended only for retail investors or where the product's assets under management has exceeded a specific threshold.
Continued Focus on Use of EU Taxonomy Framework
In the recently issued common supervisory action (CSA) on sustainability disclosures, ESMA acknowledged the "lower than expected take-up of the taxonomy in the economy". In a similar vein, the Commission appears equally focused on the use of an EU Taxonomy framework by financial market participants, with the Consultation asking whether any products introduced under any future product categorisation regime should be required to invest a minimum proportion of investments in taxonomy-aligned activities and if so, what that minimum proportion should be.
Interested stakeholders can provide their feedback on the Consultation via its dedicated webpage on or before 15 December 2023.
While we would expect that any changes to the SFDR framework would not begin to apply for a number of years (potentially 2027 at the earliest), this timeframe may change depending on the political will of the incoming European Commission next year to overhaul the existing SFDR framework sooner rather than later.
The Commission has made clear that the questions asked in the Consultation do not prejudge any future positions that might be taken by it in its reform of the SFDR. That said, the Consultation does provide some interesting insights into the Commission's thought process on what deficiencies within the existing framework need to be rectified and what potential reforms may be needed in order to ensure that in time, the SFDR achieves its objective of attracting private investment to support the transition to a sustainable, climate-neutral economy.
1. In its Consultation, the Commission has also asked whether those strategies outlined in (i) and (ii) should be merged into the same category.
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