Insight | European Commission Consultation: towards an update of the SFDR regulation?

On Friday 15th, the European Commission launched a consultation on possible changes to the SFDR Regulation. Two years after the regulation came into force, this consultation was much-awaited by financial institutions, given the challenges encountered in interpreting and applying the text, in particular the lack of a clear definition of the critical concept of “sustainable investment”.

The objectives of this consultation, which will close on December 15^th 2023, are to:

1. Understand how the SFDR regulation has been implemented by financial institutions;
2. Identify potential implementation difficulties faced by stakeholders;
3. Examine possible alternatives for improving the framework and remedying any shortcomings.

Improving the framework

Regarding the last objective, understandably the most sensitive, the European Commission notices that the classification into Articles 8 and 9 has been used by financial institutions for marketing purposes, leading to a greenwashing risk, and is submitting two proposals for consultation:

• Maintaining the current classification of funds as Article 6, 8 or 9, with significant clarification of key concepts, supplemented by additional minimum criteria (exclusions, etc.) for Article 8 and 9 funds;

• Implementing a new classification of funds. To this end, the European Commission is gathering feedback on the relevance of four potential categories, which can be summarized as follows:
  – Funds investing in assets that offer environmental and/or social solutions, with measurable impact (for example, an energy renovation company).
  – Funds investing in assets that meet sustainability standards or correspond to a specific sustainability-related theme (resource management, diversity, etc.).
  – Funds that apply exclusions to harmful activities
  – “Transition” funds that invest in assets with strong potential to improve their environmental and/or social performance; in particular, with a promise of strong shareholder engagement on the part of investors.

This second option seems beneficial for the applicability of the regulation and the readability of the extra-financial characteristics of products by the public. On the other hand, it will be necessary to define precisely the concepts used, so as not to fall into the same patterns as the existing classification. For example, defining an asset “in transition” may prove to be a complex exercise and take very uneven forms if responsibility is left to the financial institutions.

About the consultation

Following the launch of this consultation, some financial institutions are wondering with reason whether they should act and reconsider some of their investment strategies for funds that are being launched or are already on the market. Two aspects should be born in mind:

• The consultation is open until December 15^th. The European Commission will then need some time to draw conclusions, especially as it is busy with other regulatory developments (CSRD, Taxonomy, etc.).
• The currently applying classification of financial products corresponds to the applicable regulations. The AMF’s review of SFDR documents began in July and is based on the current state of regulations.

This consultation is essentially a welcome opportunity to provide a more precise regulatory definition of concepts that are crucial to financial institutions’ ability to address sustainability issues: the “promotion of social and environmental characteristics”, the “substantial contribution to a sustainability objective”, or the “do no significant harm (DNSH)”. On this last concept in particular, financial institutions would appreciate more details on the materiality thresholds expected for the principle adverse impacts (PAI), and alignment with the requirements of the CSRD, which defines corporate reporting guidelines and will shortly come into force.

For this opportunity to be fully beneficial, we believe it would be helpful for financial market players who wish to see the emergence of regulations that encourage best practices and are effective for the ecological and social transition to coordinate their efforts to put forward a common position.

Going further

I Care continues to support its clients in the interpretation and application of the SFDR regulation, based on a rigorous reading and implementation of the texts in force. These services help to protect against reputational risks and to differentiate in a constantly changing regulatory environment.

We also encourage financial market players to take part in the consultation to share their operational experience of the SFDR regulation.

Two questionnaires have been published:

1. A questionnaire for a broad audience, stakeholders with a general knowledge of SFDR (individuals, interest groups, associations): consultation link; questionnaire link
2. A questionnaire for a restricted and targeted audience, stakeholders who are familiar with SFDR and EU sustainable finance (financial market participants, investors, competent public authorities, national regulators, etc.): consultation link; targeted consultation link

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