The SFDR Regulation – Feedback on 10 days of news

Le 8/06/2022
Written by : Claire Meunier

3 new posts in 10 days! The pace of clarifications is intensifying even as management companies refine their compliance strategies and draft their first documents in view of Level 2 requirements. The SFDR Regulation, subject to multiple interpretations, asserts itself as the one of the priorities for financial players. However, the many additions from the authorities (ESMA, ESAs) do not yet make it possible to see this sufficiently clearly to be able to anticipate the future state of the art of the market.

Back to 10 days of news

The news on the SFDR Regulation over the past 10 days has been dense, providing significant clarifications at a time when management companies are intensifying their work on the subject. On May 26, the European Commission responded to questions posed by the European Securities and Markets Authority (ESMA). On May 31, ESMA published a guide for regulatory authorities. On June 2, the ESAs published a clarification of the technical standards (RTS) of the SFDR Regulation. What novelties do these 3 publications bring?

These three publications insist on the level of clarity and precision to be had by Asset Managers, in particular on the characteristics, objectives and investment strategy. This echoes the very essence of the SFDR Regulation: a mechanism to promote the transparency of management companies and investors in order to guarantee better market clarity. The standardization of non-financial declarations on a European scale is intended to become a real decision-making tool for investors, professional or not.

Contrary to what the technical standards suggested, all Article 8 and Article 9 funds with environmental characteristics or objectives will have to publish the taxonomic indicators. For real estate funds, the collection and then the reliability of data is therefore a colossal challenge, even for those whose objective is not alignment with the Taxonomy. Nevertheless, doubt still hangs over whether or not to estimate all or part of the data for the calculation of the indicators.

Finally, the interpretation on the main negative impacts is clarified. There is no longer a requirement to disclose key adverse impacts at the entity level in order to do so at the fund level. ESAs make a clear distinction between environmental characteristics and negative impacts, the former representing a contribution to environmental issues, the latter a measure of any harm caused. However, negative impacts can be used as characteristics or targets if the indicators improve over time.

How do management companies appropriate the SFDR Regulation? What challenges do they face?

The SFDR Regulation should be placed in the ecosystem of European and French regulations. It interacts directly with the Taxonomy, requiring the publication of taxonomic indicators for funds classified Article 8 and Article 9 with environmental characteristics or objectives. He is also involved in the application of the MiFID II Regulation. This adds questions about sustainability to the suitability questionnaires asked to clients by wealth management advisors. Each client will be able to determine their sustainability profile and choose funds that practice sustainable investment within the meaning of the SFDR Regulation. The Article 8 or Article 9 classification is therefore destined to become a strong competitive advantage, to be seized by management companies.

But this advantage poses a certain number of challenges, such as the multiple possible interpretations in changing news. In addition, the SFDR Regulation reinforces the need for reliable ESG data, and therefore the associated human resources. From now on, they have a place in their own right, in the same way as financial data, for all funds classified Article 8 and Article 9. The European Taxonomy makes it possible to converge these two reports to provide a common vision to investors. In the real estate sector, the challenge therefore concerns knowledge of the technical characteristics of assets and their energy consumption. Many actors are currently confronted with the complexity of consolidating unreliable collected data.

The SFDR Regulation: what is it?

Regulation 2019/2088, called “SFDR Regulation” or “Disclosure Regulation”, is the mechanism of the European Union’s action plan for sustainable finance which imposes transparency on financial market players, in particular management companies. of portfolio.

This regulation is based on the principle of double materiality. It consists of taking into account the risks in terms of sustainability, that is to say the risks related to external factors that would have a financial impact on the activity, and the main negative impacts, the impacts caused by the activity on external ESG factors.

The transparency imposed by the SFDR Regulation applies at two levels for management companies: at entity level, the management company itself; and at the level of each of their funds. At the level of real estate funds, the SFDR Regulation offers different levels of transparency. Funds are ranked according to their ESG commitment; however, this classification is not intended to become a label.

Durability within the meaning of the SFDR Regulation therefore has a broader definition than that of the European Taxonomy. The sustainability objective may be other than alignment with it (another environmental or social objective).

What are the Level 1 requirements?

The Level 1 requirements of the SFDR Regulation entered into force on March 10, 2021. Concerning qualitative elements, they do not require quantitative reporting.

Management companies had to publish on their website:

To what extent they take into account sustainability risks and what are the policies for managing these risks;
To what extent they take into account the main negative impacts and what are the associated due diligence policies;
The extent to which remuneration policies take sustainability risks into account.

Consideration of the main negative impacts is only mandatory for management companies with more than 500 employees. However, this approach is set to become more democratic, through the application of the principle of double materiality in several European regulations.

The management companies have also published, in the pre-contractual documentation of their funds, the classification of the latter and the associated characteristics and/or objectives, where applicable.

In addition, the taxonomic indicators have been published since January 1, 2022. In view of the challenge this represents for the actors, several recommendations have been issued in order to make a more accessible approach possible: for example, publish a 0% indicator in explaining the calculation approach envisaged. Finally, the consideration of the main negative impacts at fund level must be effective by December 30, 2022.

What are the Level 2 requirements?

The Level 2 requirements of the SFDR Regulation will apply from January 1, 2023. The approach this time is quantitative.

Management companies will have to publish an annual report on the main negative impacts. They will have until June 30, 2023 to publish their first indicators for the 2022 financial year. In the real estate sector, only two indicators are mandatory:

The share of assets exposed to fossil fuels i.e. involved in the extraction, storage, transport or manufacture of fossil fuels;
The share of energy inefficient assets, i.e. the share of real estate assets with an ECD of C to G.

To these is added an optional indicator which can, for example, be energy intensity or greenhouse gas emissions.

As of January 1, 2023, management companies will also have to upgrade the documentation of their funds classified Article 8 or Article 9, according to the standards defined in the RTS.

An appendix must be added to the pre-contractual documentation, specifying the environmental and/or social characteristics and/or objectives, the investment strategy of the fund and the percentage of alignment with the Taxonomy envisaged.
An appendix must also be added to any new periodic report, specifying the results for the previous financial year, in accordance with what was announced in the pre-contractual documentation.
The website will have to be updated to specify the essential extra-financial information on the fund, as well as the methodologies and processes implemented to comply with the requirements of the SFDR Regulation.