Recent years have seen a surge in the number and size of funds which describe themselves as sustainable or environmentally conscious.
Against this backdrop, regulators have become increasingly concerned about the risk of “greenwashing” – a situation where a firm makes misleading or exaggerated claims about the environmental benefit of its products or services. Conventionally seen as a conduct risk, i.e. a deliberate act of misconduct through mis-selling or misrepresentation, greenwashing might also occur inadvertently. A lack of accurate and complete data and a new landscape of unfamiliar sustainability related terminology could result in end-investors not understanding the fund’s objectives and strategies.
As regulators continually release new sustainability related regulations to tackle this concern, asset managers need to stay alert to the risk of greenwashing. Our new paper “Greenwashing risks in asset management: staying one step ahead” sets out the points along a customer’s journey where the risk of greenwashing might occur and how asset managers can stay one step ahead of that risk.
The paper looks at important regulatory initiatives and guidance such as the FCA’s Dear AFM Chair letter and new Sustainability Disclosures Requirement proposal, as well as the EU’s SFDR.
The paper also sets out the key steps firms can take to reduce the risk of greenwashing, a summary of which is provided below.
What are the key steps firms can take to prevent greenwashing?
Sustainability data is of vital importance as it underpins firms’ regulatory disclosures and reporting on non-financial objectives, as well as investment decision making. Firms should ensure they:
- undertake appropriate due diligence on third party sustainability data and ratings providers;
- enhance their in-house capabilities for analysing data and identifying limitations in it, including having clear triggers for when they will seek third- party assurance of data;
- make data limitations clear in pre-contractual documentation; and
- proactively assess whether any divestment or engagement needs to take place where new sustainability data emerges that affects funds’ ability to perform on sustainability objectives, and also update fund documentation if appropriate and alert intermediaries and end-investors.
Clear language and communications
Regulators are often concerned about the language firms use to describe, market and otherwise communicate about their products. Communication is particularly significant for sustainable investing as it is a new and evolving landscape of unfamiliar terminology. Firms should ensure that:
- fund-specific documentation and firm-wide sustainability related policies are specific and easily digestible by both retail and institutional investors;
- any communications take account of the FCA’s requirement to be “clear, fair and not misleading” and its proposals in its Consumer Duty consultation to “make sure they equip customers to make effective, timely and properly informed decisions”.
Firm-wide policies and pre-contractual fund-specific documentation
Firms have an obligation to disclose a wide variety of information to end- investors. Firms should ensure that:
- they provide thorough fund documentation that draws clear links between fund names, objectives and strategies, that are in turn backed by comprehensive firm-wide policies;
- firm-wide policies include information about the firm’s overall stance on sustainable investing, key sustainable investment strategies used by the firm and how the firm governs this area; and
- fund documents should contain specific data limitation disclaimers and any pertinent information regarding issues that might hinder the fund from achieving the environmental impact it promises.
Regulators will expect firms to provide end-investors with information to assess whether a fund is achieving its objectives on an ongoing basis. Firms should ensure that:
- metrics used to measure non-financial performance are presented in a way that is easily digestible for end-investors; and
- they are pro-active about informing intermediaries and end-investors about changes in strategies and objectives in sustainable funds.
Regulators already expect complaints to be assessed fairly, consistently and promptly, and that due attention is given to whether the complaint should be upheld and whether and what redress should be provided. With respect to greenwashing complaints, firms should ensure that:
- compliance, or other relevant complaints handling staff, are trained in sustainability investing, sustainability data and related terminology and analysis so that they can determine whether greenwashing may have occurred;
- there is a robust analysis of whether the situation triggers the definition of an FCA complaint (i.e. financial loss, material distress or material inconvenience), on what grounds, and whether financial compensation is required;
- if greenwashing has been deliberate, it should be handled in a manner similar to other serious instances of misconduct.
Please read our full paper to learn more about each of these topics and the specific actions firms can take to respond to them.