In October 2022, the Financial Conduct Authority in the UK (FCA) released its consultation paper on Sustainability Disclosure Requirements (SDRs) and sustainable investment labels.
Following responses to the paper, the FCA announced in March 2023 it was refining its labelling criteria and the eligibility of different products, asset classes and strategies for a label. Moreover, the FCA is refining the information on the primary and secondary channels that can be used to achieve sustainability, re-assessing its approach to marketing restrictions, and further considering international coherence with other jurisdictions.
The regulator’s consultation was conducted due to concerns of greenwashing of investment products
The FCA’s policy statement is expected to be released in Q3 this year. Considering the imminence of this policy, it is worth considering the implications of the consultation for financial advisers, investors, and investment products more widely and the impact on the structured product market.
The regulator’s consultation was conducted due to concerns of greenwashing of investment products. According to the FCA, 81% of adults stated that they wanted their money to ‘do some good’ as well as deliver a financial return. However, the sustainable investing industry is complex, with a confusing diversification of sustainable investment approaches (thematic, exclusion, best in class), and there is a lack of clear information about firms’ sustainability credentials.
In some cases, this leads to misleading claims about sustainability being made; in other cases, consumers are not aware of the range of ESG investment products. Research by Scottish Widows, for example, found that only 10% of people knew that ethical and sustainable savings, pensions, and investments existed, suggesting a need for clearer marking and advertising of these products (Scottish Widows in Head, 2022).
Proposed solutions
In the consultation paper, the FCA introduced several proposals. Firstly, to create three optional sustainability labels for investment products: sustainable focus, sustainable improvers and sustainable impact. Secondly, to mandate consumer-facing sustainability disclosures for investment products. Thirdly, to mandate companies using sustainability labels or with sustainability-related features to provide more detailed disclosures, including pre-contractual disclosures and ongoing reports.
Entity-level disclosures should disclose firms’ individual management of sustainability risks and opportunities, including how asset managers consider sustainability when selecting firms. The FCA’s proposal also includes a general ‘anti-greenwashing’ rule to regulate the naming, labelling and marketing of investment products. Included in the FCA’s consultation is a proposed requirement for distributors of investment products to provide clear access to investment products’ sustainability information.
Impact on consumer choices
As the FCA notes, the UK market for responsible investment funds grew 64% over 2021 to reach £79 billion (IA, 2021). The FCA’s proposals are likely to further drive consumer interest in such funds despite some recent negative sentiment. According to the FCA’s consumer research, providing consumers with sustainability factsheets significantly improved consumer understanding about a fund’s sustainability credentials (FCA, 2022). Providing sustainability factsheets also correlated with a significantly increase in the number of consumers opting for sustainable investment funds.
Between one-third and half of this increase was because consumers better understood the sustainability credentials of the products following this information (FCA, 2022). The behaviour of individual consumers cannot be predicted. Findings from Dr David Stillwell of the University of Cambridge Institute for Sustainability Leadership show that a median saver would opt for sustainable funds even if it entailed a 2.5% decrease in returns suggests that sustainability is considered independently to financial factors.
The FCA’s proposals allow the median, socially and environmentally conscious investor to be well-informed of their investment product’s sustainability credentials.
Implications for advisers
The FCA states it is drafting more detailed guidance of the discussion paper’s implications for financial advisers and other intermediaries. In its 2022 paper, the FCA notes that financial advisers will be in the scope of their rules considering their roles as intermediaries and distributors of investment products.
They will therefore be bound to the requirements outlined to distributors, which include making any sustainable investment labels clearly available to their consumers through a digital medium. They must provide access to consumer-facing disclosures for all products in similarly clear way. Distributors are expected to update consumers on any changes that firms make to their disclosures or labels through their marketing communications and digital platforms.
Structured products have started to embrace ESG underlyings and the use of green bonds.
Examples in the last couple of years in the UK market include ESG Green Bond UK Kick Out Plans from Mariana, the Climate Change Deposit Plan from Causeway and the ESG Biodiversity Defensive Kickout Plan from Arcus. These incorporate use of ESG underlyings and in some cases a Green Bond or one created under a ‘Positive Impact’ range. Active investment banks who will take on the issuance of such products include Barclays, Société Générale and Natixis.
More broadly, financial advisers may have to explain the labels in their consultations with clients and clarify the implications of the product’s consumer-facing disclosures and product-facing disclosures. But the labels will allow financial advisers to more clearly identify funds that fit with their clients’ sustainability preferences, eg clients with a strong interest in making a sustainable impact can be directed to appropriately labelled funds. Although financial advisers will perform their own due diligence on funds to ensure they meet clients’ requirements, the FCA’s proposals will help advisers fulfil the requirements of the new Consumer Duty.
This policy obliges firms to ‘act in good faith’, ‘avoid foreseeable harm’ and ‘enable and support retail customers to pursue their financial objectives’. The labelling and disclosure proposals will help advisers give honest and informed advice, help avoid any harm that misunderstandings about funds’ sustainability credentials could cause and allow customers to integrate sustainability into their financial decisions if appropriate.
Next steps
Whilst the FCA clarifies its policy on SDRs and investment labels, it is worth financial advisers consider how they can update their advice process to integrate these changes and embed the topic of sustainability more firmly into conversations with clients.
The investment industry more widely must consider its sustainability-related data collection and presentation methods, whether ESG experts are represented within companies, whether they are pursuing sustainability objectives and whether their marketing and communications clearly and fairly reflect these sustainability objectives. The regime will not come into effect until at least 30 June 2024, but in some cases significant action will need to be taken.
This new regime will further impact structured products potentially as the assessment of a product needs to be both from its investment rationale and ESG credentials. By staying responsibly inside this growing trend structured products can appeal to a wider investor audience.
Disclaimer: the views, information or opinions expressed herein are those of FVC, and do not necessarily reflect the views of SRP.
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