The European market for structured products faces a new challenge in the wake of the new ESG regulation. The implementation of the EU Taxonomy Regulation1 in the upcoming years will make more data available to market participants about the environmental sustainability of major companies in the EU. A new EU Green Bond framework2 will create a gold standard for issuances with a specific environmental use of proceeds.3 Under the EU Disclosure Regulation,4 financial market participants (such as investment funds) and financial advisers (such as credit institutions and investment firms) are already required to provide certain sustainability disclosures. The EU Benchmark Regulation5 provides the basis for EU Climate Transition Benchmarks and EU Paris-aligned Benchmarks. Also under the amended MIFID II Delegated Regulation,6 investment advisers will be required to ask investors about their sustainability preferences. This development is accompanied by the discussion about a sustainability traffic light system (for example, in Germany) and the EU Ecolabel for (retail) structured products.
In a nutshell, for manufacturers of structured products, this means that the transition to sustainable structured products will play a key role in structuring products. However, as structured products are not covered by the EU Disclosure Regulation, there is currently no regulatory framework directly applicable to such products. Accordingly, there is currently no regulatory guidance on the features of a structured product that would qualify a product as a "sustainable structured product." Hence, there are uncertainties for manufacturers when it comes to structuring sustainable structured products.
In connection with the discussion about the further implementation steps for the EU Taxonomy Regulation and the EU Disclosure Regulation, the EU Commission did not yet acknowledge an enabling effect of derivative instruments on sustainability goals. Moreover, in Germany, early court cases have been published where consumer protection associations claimed that product manufacturers in the area of investment funds made misleading information to investors in the context of the offering and advertising of environmental sustainable investment funds.
What should manufacturers of structured products do in such a situation? Taking into account that EU investors will, from this summer on, be asked about their sustainability preferences by investment advisers, a product universe covering sustainable products needs to be in place by then. Otherwise, an investment adviser would not be able to match the requirements of an investor. Waiting for a clear regulatory direction does not, therefore, seem to be right.
In contrast, this situation creates new opportunities for innovative product structures. When it comes to structured products, there are numerous elements that can count towards the sustainability of the product, e.g., the issuer's "sustainable" balance sheet, the use of proceeds for sustainable purpose, the use of sustainable underlyings, the repackaging of sustainable assets or any other combination of the structured product with sustainable assets on the issuer's balance sheet or even the trading book. The most important factor in connection with the decision making process towards a sustainable products spectrum is the creation of a stringent and transparent sustainability strategy pursuant to which products will be structured, distributed and explained to investors. This also means much more disclosure to investors regarding the sustainability linkage of the respective product. As the EU Disclosure Regulation represents the current EU standard for sustainability disclosures, such disclosures should at least meet these standards. The main document for the required disclosures is the securities prospectus. In addition, there are further risk mitigation tools for manufacturers to mitigate the risks of claims of deception or wrongful conduct. Therefore, the current regulatory environment creates opportunities to develop a market for sustainable structured products in a sensible, trustful and risk-managed way.
1 Regulation (EU) 2020/852 ( https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=celex:32020R0852).
2 See the EU Commission proposal for a European green bond standard ( https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX:52021PC0391)
3 It is intended that the funds raised by such a Green Bond should be allocated fully to projects that are aligned with the EU Taxonomy Regulation.
4 Regulation (EU) 2019/2088 ( https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=celex%3A32019R2088).
5 Regulation (EU) 2016/1011 ( https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A32016R1011).
6 Regulation (EU) 2021/1253 ( https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A32021R1253).
Originally published in REVERSEinquiries: Volume 05, Issue
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