The EU has assessed the potential for new minimum standards for ESG benchmarks, or an ESG equivalent to its climate transition and Paris Aligned Benchmarks.
Policymaker’s long-standing plans to bring “standardisation and transparency” to the booming ESG benchmark market moved forward last week with the publication of a feasibility study, published by the EU’s financial services unit, DG FISMA, and auditing giant PwC.
“Our analysis of the current offering of ESG benchmarks shows that the variety of methodologies deployed is accompanied by a high degree of variability in the presentation and depth of information provided in the methodology documents in relation to the ESG factors considered, especially when they use ESG data providers,” the report stated.
Index providers will often direct clients to those third-party data houses if they want more details about the ESG considerations underpinning indices, it continued, creating what it described “an onerous layer of research for the users”.
The report also noted the tendency for ESG benchmarks to be skewed towards large-cap companies – especially in the big tech sector – which are often not the best ESG performers in an investment universe.
The Commission explored options for introducing a mandatory minimum standard for all ESG benchmarks in the region, or a voluntary label that would perform the same role as the EU’s existing climate benchmark categories, launched in 2021.
Minimum standards would help investors comply with the Sustainable Finance Disclosure Regulation’s (SFDR) reporting rules for Article 8 funds, it explained, referring to the need for passive products claiming to consider sustainability issues to provide information on how they do so.
The voluntary label, on the other hand, would support disclosures under Article 9 of the regulation, which calls for proof if investment funds claim to actively pursue sustainability objectives.
According to a survey undertaken as part of the study, there is support for the introduction of rules around ESG benchmarks, but “strong pushback” against the idea of a mandatory standard.
“It may be more acceptable to position both the mandatory standard and voluntary labels as automatic routes to qualifying as disclosure under SFDR Article 8 and 9 respectively, rather than as the only routes,” the study concluded.
In terms of timing, the Commission acknowledged the potential need to “provide clarity on the current set of rules before introducing new ones”. The SFDR has created chaos among asset managers and national regulators, partly because there is no definition of sustainability under the rules.
The feasibility study also acknowledged the potential need to stagger the introduction of new labels or standards for ESG benchmarks: “[A] phased approach could start with the adoption of a fully voluntary label based on one of the options for minimum standards […] with the option to be an automatic, but not an only route to addressing the requirements of Article 8 of SFDR.
“In the long term, taking into account the experience of voluntary use, the label could be transformed to a mandatory minimum requirement and supplemented with a voluntary label for benchmarks with higher sustainability ambitions.”
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