Voluntary to Compulsory
ESG is now a commercial imperative, with growing integration within the investment process. As Climate Change climbs up the public policy agenda and the influence of responsible investing (RI) continues to increase, this commercial imperative is beginning to be matched by a significant regulatory response.
There is a raft of incoming regulations and voluntary codes relating to ESG. As one example, the UN Principles for Responsible Investment (PRI) alone lists over 700 sustainability-related regulations. This sends a clear message that regulators intend to challenge the investment industry to achieve meaningful ESG influence with their ESG-focused products and beyond. Requirements are coming into force fast, often with short implementation periods, and there are a large number of regulations and voluntary codes to consider. Are you ready to meet these new, elevated standards?
Strategic Engagement is Key
Asset managers must think strategically about whether their target is to comply or to compete for market leadership through these regulatory demands. It is possible to comply with regulations such as the Sustainability-Related Disclosures Regulation without ESG positioning. However, incoming regulatory standards aim to reduce the possibility of controversial “greenwashing”, holding products with ESG objectives to higher account. As demand rapidly increases for ESG products, fulfilling the elevated standards of incoming regulations as well as engaging with at least the most prominent voluntary codes, will be vital to having a credible ESG offering.
Key themes
1. Be Ready to Disclose
Through regulations such as the Sustainability-Related Disclosure Regulation, clients will soon expect disclosure of a range of different ESG metrics to demonstrate embedding of ESG considerations in the investment process. Clients are increasingly demanding that managers move to “show me”, building on previous expectations of “tell me”. Policies and marketing brochures are no longer enough; clients want to know what has happened in their portfolio specifically.
2. Be Ready for Common Standards
Through the introduction of frameworks such as the EU taxonomy, there is increasing alignment around standardised taxonomies, which will bring additional, tightly prescribed disclosures. While asset managers are often disclosing ESG-related information to a handful of clients, scaling this up across thousands of clients and hundreds of funds, while conforming to new and often complex classification methodologies, presents a significant challenge.
3. Enhance Stewardship
Disclosing stewardship activity at the organisation level is no longer enough; clients are now looking for information on activity and engagement at a portfolio level. Additionally, due to the increase in standards in the UK Stewardship Code 2020, asset managers will soon need to disclose not only their engagement activity, but the associated outcomes of this activity.
4. Consider Client Needs
Changes to major regulations to incorporate ESG factors are underway, including MiFID II, UCITS and AIFMD, particularly relating to suitability. Asset managers will need the capability to both collect client ESG preferences, and in time, the ability to report back on how these preferences are met.
5. Be Proactive with Voluntary Codes
There are a growing number of opportunities for asset managers to become signatories to voluntary codes relating to RI standards. Many of these codes, while voluntary, are being seen as minimum standards in selections by asset owners – namely the UN PRI, the UK Stewardship Code and the Task Force on Climate-related Financial Disclosures (TCFD). Defining and maintaining a clear strategy for becoming a signatory to voluntary codes is increasingly important in managing clarity of messaging and effort.
6. Climate, Climate, Climate
Climate is currently at the top of the regulatory agenda within RI. This focus comprises requirements like carbon footprint reporting and climate scenario analysis, as well as opportunities for market leaders to work in partnership with regulators on “green innovation”.
Are You Ready?
- Have you completed an impact assessment across the multitude of incoming requirements?
- Have you defined a prioritised implementation roadmap to ensure readiness for the key deadlines?
- Have you defined your strategy across key regulations? Product, active ownership and voluntary code strategies are all essential in moving from complying to competing
- Have you readied your operating model foundations? The major challenge across this regulatory landscape will be technology and data. Even if your ESG offering is advanced, do you have the technology and data to evidence this?
- Have you readied your teams for taking part in this programme of regulatory change? These regulations impact every area of the business and therefore every team, from the investment process to pre-contractual disclosures, and periodic reporting
Conclusion
Regulation is coming. Fast. Every asset manager needs to take action now to stay compliant and to assist clients in doing so. The scale of regulation and the breadth of impact across your business means a coordinated impact assessment and delivery programme is required. Asset managers should not underestimate the meaningful data and technology change that will be required to achieve the disclosure elements of regulation.
Start planning now.
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About the Authors
Sarah Hedges
Consultant
Sarah is an experienced consultant, specialising in ESG and RI regulations. Since joining Alpha in September 2017, Sarah has supported a variety of asset managers in understanding the ESG regulatory landscape, as well as assessing incoming requirements and associated implementation considerations. Sarah also has experience across the broader EU and UK regulatory agenda.
Vanessa Bingle
Senior Manager
Vanessa heads Alpha's ESG & Responsible Investing proposition. Since joining Alpha in 2018, Vanessa has led a variety of investment-focused projects with asset managers and asset owners, including helping to design and embed an organisation's ESG vision across investment- and client-facing activities, post-merger integration of investment teams, and designing investment research collaboration approaches. Before joining Alpha Vanessa worked for six years as an Investment Consultant.