March 10th 2022 will see the one year anniversary since the arrival of the Sustainable Finance Disclosure Regulation (SFDR) and Hortense Bioy, Global Director of Sustainability Research, Morningstar, has had the best opportunity to watch it in action over the year.
Bioy says that Morningstar’s two reports, one for SFDR funds and the other for global ESG funds have both seen extraordinary growth. Bioy, who was Morningstar’s head of ETFs in Europe from 2012 to 2020, combining that with head of ESG for two years, reports that global ESG fund assets hit USD2.74 trillion at the end of 2021, up 9 per cent quarter on quarter, while SFDR funds, those classified as Article 8 or 9, hit EUR4 trillion in 2021.
There are reported to be more than 5,900 sustainable or ESG funds globally, with the majority in Europe. The firm has recently undergone something of a review of their classifications of ESG funds, driven by the new disclosure that has come out of the SFDR.
“There have been new ESG disclosures and some language is ambiguous, so our data analysts have started to tighten the criteria to flag funds that are sustainable investments,” she says.
“Everyone has their own criteria and definition and we haven’t changed our definition. What we think is a sustainable fund hasn’t changed but some of the new language can be ambiguous with a lot of room for interpretation.”
Because the review process was still ongoing when they published their Q4 ESG fund flow report, Morningstar research analysts decided to go back to their pre-SFDR bespoke universe of ESG funds to which they added only funds that have ESG related terms in their name and clear description of their ESG-focused processes in Key Investor Information Documents.
“ESG has to be central to the strategy.” Bioy says. Morningstar analysts have used machine learning to read KIID documentation looking for language and names such as ESG, sustainable, green or responsible.
“You could argue there are some funds in our list that could be greenwashing,” she says. “That’s true. But I suspect asset managers are more careful now before rebranding strategies. They are aware they could be accused of greenwashing.”
Bioy reports that in general Morningstar is seeing more disclosure. “There is more disclosure but not necessarily more clarity, especially given ethe wide range of green. Today greenwashing is the word of the day. Everyone can be accused of greenwashing, whether they hold dirty assets or not.”
She comments that there is a lack of guidance from the SFDR regulation itself. “The regulator has yet to decide whether there is a need for minimum criteria for Article 8 funds. Managers have rushed into this because of competitive pressure and some are disclosing comprehensive information, while others are light on disclosure.”
Next year will see level two of the SFDR regulation. “Going forward, we will get more detail about what those strategies are about – SFDR has created a lot of confusion but things will fall into place eventually.”
Bioy also talks about the MiFID II amendments coming up which will mean that intermediaries and financial advisers will have to ask their clients about their ESG preferences, which will require the asset managers to explain which products are suitable for what.
“What’s interesting in the ETF space is the debate about funds that track EU climate benchmarks,” Bioy says. “Whether Paris-aligned or Climate Transition there is a debate as to whether they should be classified as Article 9.”
She also notes the increase in the number of thematic ETFs in the ESG or green space, all following very different methodologies.
The firm is working on a climate study across its global fund base. “We want to educate the investor about the different strategies that fulfill different needs, whether you want to decarbonise or invest in green solutions or both,” she says. “It will help investors invest with a climate lens.”