UK sets out sustainable fund labels that move beyond the EU’s SFDR

The UK’s financial regulator has set out plans for new sustainability investment product labels that would differ from those under the EU’s Sustainable Finance Disclosure Regulation (SFDR).

The new labels – “sustainable focus”, “sustainable improvers” and “sustainable impact” – have been proposed by the Financial Conduct Authority (FCA) as part of its incoming Sustainable Disclosure Requirements (SDR), effectively the UK’s replacement for SFDR.

They form part of a package of new measures designed by the FCA to clamp down on “greenwashing”, but they also mark a departure from SFDR’s Article 6, 8 and 9 classifications, which relate to disclosure requirements and are not intended to be used as product labels.

Real estate fund managers with investment strategies that seek to improve the sustainable performance of buildings could stand to benefit from the new SDR labelling system, specifically through the sustainable improvers label, which is aimed at ”products investing in assets to improve the environmental or social sustainability over time”.

Earlier this year, European Securities and Markets Authority (ESMA) clarified that real estate funds that aim to acquire and improve the sustainable performance of buildings would not meet Article 9 requirements at the outset – despite Article 9 funds being defined as having “sustainable investment as its objective or a reduction in carbon emissions as its objective”.

Under the FCA’s proposals for SDR, the sustainable improvers label would apply to funds “with an objective to deliver measurable improvements in the sustainability profile of assets over time”.

A consultation document, released today, says: “These products are invested in assets that, while not currently environmentally or socially sustainable, are selected for their potential to become more environmentally and/or socially sustainable over time…”

Organisations from the institutional real estate industry have been in discussions with the FCA in a bid to ensure ESG metrics and product labels under SDR are fit for purpose for the asset class.

A joint submission to the FCA said the UK had an opportunity to create a “plain, concise and easily understood” product labelling system that “could be similar to the descriptions used in SFDR”, to assist UK firms already working to report under SFDR.

It proposed four labels, including “sustainable aligned”, equivalent to Article 9, and “sustainable impact”, which would relate to funds that have “as their core intention an objective/aim of making an impact through transitioning assets to a more sustainable path”.

The FCA is looking to “simplify the regime” by reducing the number of labels from an initial five. “There will be three categories – including one for products improving their sustainability over time – underpinned by objective criteria,” it said.

Source: Sustainability Disclosure Requirements (SDR) and investment labels

Sacha Sadan, the FCA’s director of ESG, said: “Consumers must be confident when products claim to be sustainable that they actually are. Our proposed rules will help consumers and firms build trust in this sector.”

Sadan said the implementation of SDR “places the UK at the forefront of sustainable investment internationally”, adding that the FCA is “raising the bar by setting robust regulatory standards to protect consumers”.

Lonneke Löwik, CEO of European real estate association INREV, and one of the eight organisations behind the joint submission to the FCA, said: Lonneke Löwik: “We’ve been anticipating the release of the SDR proposals and look forward to continuing to work together with other real estate industry associations as we review them and develop aligned industry comments to the FCA in response.”

Melville Rodrigues, head of real estate advisory at Apex Group, who led the dialogue with the FCA, described the FCA’s proposals as “an ESG-regulatory game-changer for UK fund managers and their investors”.

The labels could be “attractive to, and adopted by, fund managers and investors elsewhere”, he said.

“These are neat labels which are suitable to retail as well as institutional investors, capable of being mapped to SFDR disclosure requirements and, in the US, the SEC’s recent proposals on disclosures, and reinforce the crucial anti-greenwashing principle.

“In a real estate context, such labels could be applied to reflect different stages of an asset’s life cycle. They will be useful, for example, for funds with stranded assets but which are transitioning to ‘green’ and encourage such transition strategies. Such strategies have an important contribution in progressing the net-zero agenda.”

Rodrigues also said he could envisage market participants using the labels voluntarily “well ahead of the FCA finalising SDR next year”.

The FCA has launched a consultation on its proposals which is open until 25 January 2023.

Helen Newman, head of sustainable finance at CBRE Capital Advisors, said: “While this is both a disclosure and product labelling regime, which differs from other frameworks, it is good to see the regulator has sought coherence with other regimes including the ISSB, the EU SFDR and the proposals by the US SEC.

“The FCA has clearly endeavoured to respond to shortfalls of the EU’s SFDR and provided clarity on the application of labels by proposing a threshold for the proportion of assets within managed portfolios that must qualify, which will support application of the requirements.

“We look forward to working with industry partners, including AREF, INREV, CREFC, BBP and others, in responding to the proposals on behalf of real estate professionals.”