Bumper month for EU sustainability policy ends with Transition Benchmark proposal

The European Union’s advisory group has put forward a proposal for the creation of a new regulatory label for climate transition benchmarks, based on the bloc’s green taxonomy.

The Platform on Sustainable Finance (PSF) has fleshed out the plans, which were first mooted last year, in a report presented to the European Commission on Thursday.

It contains proposals for two new Investing for Transition Benchmarks, or ITBs.

“An Investing for Transition Benchmark is defined as an investment benchmark that incorporates – next to financial investment objectives – specific objectives related to greening of CapEx, greenhouse gas emission reductions in line with IPCC’s [Intergovernmental Panel on Climate Change] scientific evidence and the transition to a low-carbon economy through the selection and weighting of underlying constituents,” PSF explained.

They can be used as underlying indices in passive investment strategies, performance benchmarks for low-carbon strategies, or tools to steer corporate engagement or strategic asset allocation.

The EU already has labels for Climate Transition Benchmarks (CTBs) and Paris-Aligned Benchmarks (PABs), developed during the first phase of its sustainable finance agenda.

The first version of the Investing for Transition Benchmark would require a portfolio to decarbonisation by 7% on average, annually.

This is the same level of decarbonisation required by the PABs and CTBs, but investors using those benchmarks must cut their portfolio emissions by between 30% and 50%, compared with the parent index, before embarking on the 7% annual reductions.

Some investors have found that initial haircut too steep, while others have complained that the 7% target is unachievable over the long term because the underlying economy is not decarbonising fast enough.

The ITB label would remove the upfront reductions, and would allow the 7% decarbonisation to be offset by green capital expenditures.

So, for example, if a portfolio company’s emissions remain the same during the year, but its reporting under the EU’s Taxonomy Regulation shows a material increase in green capital expenditure – suggesting it is investing in a longer-term transition – it will be eligible for inclusion in an ITB.

Qualifying benchmarks would also have to exclude controversial weapons, tobacco companies and firms violating norms laid out in frameworks such as the UN Guiding Principles on Business and Human Rights.

The first version of the ITB is called the IBTex, because it includes a requirement to exclude companies generating more than 1% of revenues from, or allocating more than 1% of spending to, coal; more than 10% for oil; and more than 50% for gas.

The second version, known simply as ITB, contains none of these exclusions.

“The two types of Taxonomy benchmarks are pursuing a similar objective but differentiate themselves in terms of their level of restrictiveness and ambition,” explained the PSF.

“ITBs with exclusions are designed for more ambitious climate-related investment strategies and are characterised by stricter activity exclusion requirements, while ITBs without exclusions allow for greater diversification and serve the needs of institutional investors with a reciprocal business relationship to fossil fuel issuers.”

Other EU developments

The report is the latest in a flurry of activity from the European Commission and its advisors and supervisors as they rush to meet end-of-year deadlines before the holiday break.

Earlier this week, PSF published its proposals for a new categorisation system under the Sustainable Finance Disclosure Regulation (SFDR).

Last week, the European Securities and Markets Authority (ESMA) launched a consultation on plans to delay requirements for companies to digitally tag data disclosed under the Corporate Sustainability Reporting Directive (CSRD), which is intended to make it easier for investors to use.

France’s financial regulator identified a number of French firms with good practice when it came to reporting in line with CSRD, in a report published last week.

AMF said it had contacted nearly 400 companies over the past year to raise issues about their sustainability disclosures, but that progress was being made. It namechecked L’Oréal, Schneider Electric and Michelin as leaders.

Finally on CSRD, the EU’s advisory body published a raft of answers to questions it had received from confused companies and their advisors about how to interpret the rules and their underlying standards.

The European Financial Reporting Advisory Group (EFRAG) has provided 257 responses this year, to help users of the European Sustainability Reporting Standards.

It also issued dedicated guidance for SMEs this week, and an explainer of how to map material environmental and social topics to the right metrics.

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