Sustainable investments: The European Commission amends its regulations
As part of its sustainable finance action plan with the publication and entry into force of two major regulations (SFDR, EU Regulation 2019/2088, and Framework Regulation, EU Regulation 2020/852, known as the Taxonomy Regulation), the European Commission has had to make changes to other regulations in order to take account of sustainability factors.
These amended regulations include MiFID II1 and IDD2, which seek to incorporate these new sustainable investment requirements.
MIFID II – ESG is applicable as of 2 August 2022. It is based on the European Markets in Financial Instruments Directive (MiFID II) and the European Sustainable Finance Disclosure Regulation (SFDR).
First, “product” governance obligations have been supplemented to incorporate clients' sustainability preferences as well as sustainability factors and risks for financial instruments.
By 21 August 2022 at the latest, Member States had to adopt and publish the necessary arrangements to comply with additional amendments to the MiFID II sustainability framework, in accordance with Commission Delegated Directive (EU) 2021/1269 of 21 April 2021 amending Delegated Directive (EU) 2017/593 as regards the integration of sustainability factors into the product governance obligations.
The obligations relating to these additional amendments come into force on 22 November 2022.
They require producers/designers and distributors of financial instruments to act in the best interests of clients/investors during all stages of the product and/or service life cycle.
ESMA’s3 final guidelines on these new “product” governance requirements will be published during the first quarter of 2023 and will follow the public consultation which ended on 7 October 2022. They concern:
MiFID II: Product governance obligations relating to sustainability apply in particular to financial instruments such as equities, bonds, UCITS, certain derivatives, etc.
IDD: Insurance-Based Investment Products (IBIP) designed and distributed by insurance companies and insurance intermediaries.
Finally, the investor profile questionnaire (Suitability Test) has been supplemented to take into account the client's sustainability preferences. This should make it possible to offer advice or discretionary management not only perfectly in line with the risk profile, but also with the client's sustainability preferences.
As a reminder, the SFDR's RTS (regulatory technical standards) published in July 2022 provide, among other things, details on “Principal Adverse Impact” (PAI) disclosures, to be produced on the basis of 18 mandatory indicators and two optional indicators, with publication of the initial assessment, for 2022, due by 30 June 2023. An asset classification methodology must be put in place and there must be transparency for clients regarding the effective contribution of their investments to achieving sustainable development goals.
This task appears complex insofar as there is a dual definition of sustainable investment and DNSH (Do Not Significantly Harm) introduced by SFDR (covering both environmental and social objectives) and by the European Taxonomy (focused on environmental objectives).
Each producer/designer and distributor must put in place their own definition of the concept of sustainable investment. However, there will necessarily be disparities between those who could show much higher minimum proportions of sustainable investment than others in their pre-contractual documents (e.g. >40% vs. >15%).
In addition, for these investments with an environmental objective, the publication of the percentage of alignment with the Taxonomy remains, at present, a real challenge in terms of available data. So-called green products (article 8 or article 9) with a 0% alignment to the Taxonomy are already anticipated. In contrast to the regulation, these divergences may create confusion for investors about the actual sustainability of their investments.
Find out more on SFDR.
1MIFID: Markets in Financial Instruments Directive
2IDD: Insurance Distribution Directive
3ESMA: European Securities and Markets Authority