What could the new sustainability labels mean for fund due diligence?

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For financial professionals only

The FCA has released its long-awaited Sustainability Disclosure Requirements consultation paper (CP 22/20), which Parmenion has responded to.

The proposal involves introducing new sustainable investment fund labels, along with additional requirements for fund managers and distributors. In a nutshell, the proposed labels are:

  • Sustainable focus – funds investing in environmentally and/or socially sustainable assets
  • Sustainable improvers – funds investing to improve the environmental and/or social sustainability of assets over time, including the stewardship influence of the investment management firm
  • Sustainable impact – funds investing in solutions to environmental or social problems, achieving positive, real‑world impact

Extra transparency is welcome news for all

The FCA’s driving force for the proposed disclosures is giving retail consumers more transparent and consistent information on sustainable funds, so they can make better informed decisions. Fund managers will need to provide more evidence behind their statements, which will be very welcome for sustainable investors.

More than just a label

However, as always, there’s no substitute for meeting sustainable fund managers to quiz them on their motivations and strategy towards sustainability, and how this drives their investment process and fund holdings. We won’t be able to get all of this from a fund label and written disclosures. And while most managers have the right intentions, they are solely responsible for putting forward their funds under a particular sustainability label. It’s important we do detailed independent research and satisfy ourselves that a manager’s claimed fund label stacks up with what’s happening under the bonnet.   

This will be especially important for funds with the “sustainable improvers” label. For example, these funds may invest in companies with some exposure to fossil fuels if the fund manager believes they’re transitioning successfully to clean energy. But how does the fund manager define which companies are capable of improvement? Where do they draw the line with how “dirty” a company is today? What progress will they need to see over what timeframe to continue holding the stock, and what KPIs do they use? These are nuanced issues and involve in-depth questioning of fund managers.

Another danger of relying on fund labels is that regulation will evolve over time. For example. in Europe some managers are now re-assessing their funds’ labels under the SFDR regime (1). Investors should be clear on their own ESG views and objectives and not define this relative to external labels and regulations which may change.

In addition, the world of ESG investing is much broader than sustainability. Responsible and ethical funds aren’t directly covered by the proposed disclosures, so further research will be required.

Bringing expert insight

Parmenion’s Ethical Oversight Committee rigorously assesses all funds in our active ethical and passive ESG solutions, making sure they meet their respective mandates. This is independent to the full investment due diligence that the Parmenion investment team undertake on each fund annually.

The Committee currently consists of 4 independent members (2), with many decades of combined experience in ESG, sustainable and ethical investing. They have different backgrounds (in terms of their gender, age, ethnicity and experience) and bring a broader view to how we think about key environmental, social and governance issues. We’re really proud to be one of the few DFMs to have a panel of expert consultants, with such rich and diverse skills across ESG regulation, ethical financial advice, corporate lobbying, climate activism and investment management. 

The Committee has researched over 75 active and passive funds in depth over the last 3 years. Each assessment involves:

  • A 1-2 hour meeting with the fund manager or head of responsible investing to cover the fund’s ESG approach, team resources, voting and engagement activity, positive and negative ESG screens and affiliations to any ESG groups such as the UN PRI
  • Reviewing a full list of fund holdings
  • Providing a clear and substantiated recommendation for whether a fund is “best fit” or “acceptable” for each of our 4 Ethical Profiles
  • A committee discussion

We’re continually enhancing our ESG due diligence processes to make the most of new emerging information sources. While the proposed sustainable fund labels will be helpful, this is just one additional piece of information we’ll use alongside many others.

1) https://www.etfstream.com/news/hsbc-am-joins-rivals-in-downgrading-article-9-paris-aligned-climate-etfs/

2) Please refer to our website for more background on our EOC members: https://communications.parmenion-im.co.uk/acton/attachment/19226/f-091ec9aa-5593-4571-8fbd-e5fd65ab1c3d/1/-/-/-/-/Ethical%20Investing%20With%20Parmenion.pdf

This article is for financial professionals only. Any information contained within is of a general nature and should not be construed as a form of personal recommendation or financial advice. Nor is the information to be considered an offer or solicitation to deal in any financial instrument or to engage in any investment service or activity.

Parmenion accepts no duty of care or liability for loss arising from any person acting, or refraining from acting, as a result of any information contained within this article. All investment carries risk. The value of investments, and the income from them, can go down as well as up and investors may get back less than they put in. Past performance is not a reliable indicator of future returns.  

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