SEC Releases Proposed Rules for ESG Funds - Waystone

      SEC Releases Proposed Rules for ESG Funds

      SEC Releases Proposed Rules for ESG Funds

      On May 25th, the SEC proposed amendments to rules and reporting forms to promote consistent, comparable, and reliable information for investors concerning funds’ and advisers’ incorporation of environmental, social, and governance (ESG) factors.

      In a statement introducing the rules, SEC Chair Gary Gensler said that the proposals would “establish disclosure requirements for funds and advisers that market themselves as having an ESG focus”, noting:

      “It is important that investors have consistent and comparable disclosures about asset managers’ ESG strategies so they can understand what data underlies funds’ claims and choose the right investments for them.

      When I think about this topic, I’m reminded of walking down the aisle of a grocery store and seeing a product like fat-free milk. What does “fat-free” mean? Well, in that case, you can see objective figures, like grams of fat, which are detailed on the nutrition label.

      Funds often disclose objective metrics as well. When doing so, investors get a window into the criteria used by the asset managers for the fund and the data that underlies the claim.

      When it comes to ESG investing, though, there’s currently a huge range of what asset managers might disclose or mean by their claims….

      ….When an investor reads current disclosures, though, it can be very difficult to understand what some funds mean when they say they’re an ESG fund. There also is a risk that funds and investment advisers mislead investors by overstating their ESG focus.

      People are making investment decisions based upon these disclosures, so it’s important that they be presented in a meaningful way to investors.”

      Summary of ESG Disclosure Requirements – Proposed Amendments:

      The proposing release acknowledges approaches to ESG investing vary, which can pose challenges for investors choosing among investment products and services. The SEC found that some funds focus on only one issue under the ESG umbrella (e.g. a focus on environmental issues, social issues, or governance issues) and others are applying factors more broadly and implementing measures across each of the ESG categories.

      The release notes that investment products generally fall along a three-part spectrum:

      1. ESG Integration – considering one or more ESG factors alongside other, non-ESG factors in investment decisions such as macroeconomic trends or company specific factors like a price-to-earnings ratio.
      2. ESG-Focused – focusing on one or more ESG factors by using them as a significant or main consideration in selecting investments or in engaging with portfolio companies.
      3. ESG Impact – strategies with a stated goal that seek to achieve a specific ESG impact or impacts that generate specific ESG-related benefits.

      Under the proposed rules:

      • Funds that say they consider ESG factors would be required to provide investors with information in the prospectus about the ESG factors they consider, along with the strategies they use. This could include, for example, whether a fund tracks an index, excludes or includes certain types of assets, uses proxy voting or engagement to achieve certain objectives, or aims to have a specific impact.
      • ESG-Focused funds would need to disclose details about the criteria and data they use to achieve their investment goals, as well as more specific information about their strategies. These disclosures would enable investors to dig into the details of a fund’s strategy.
      • Certain ESG-Focused funds would be required to disclose relevant metrics. For example, most environmentally focused funds would be required to report the greenhouse gas emission metrics of their portfolios, and an impact fund would be required to disclose metrics about and annual progress toward its ESG goals.
      • The proposals would also require ESG-focused funds to present information in a standardized, tabular format, enabling investors to quickly identify the types of ESG strategies being used, and to easily compare with other funds.
      • In addition, under the proposal, certain investment advisers would be required to disclose similar types of information as registered investment companies regarding their ESG factors and strategies in annual reports and adviser brochures. These disclosures would be tailored to help clients make an informed decision about whether to engage an adviser and how to manage that relationship.

      ESG Funds – Names Rule

      • The SEC also introduced a proposed update to the “Names Rule,” in a separate release (Investment Company Names, Investment Company Act Release) clarifying the requirement for certain funds to adopt a policy to invest at least 80% of their assets in accordance with the investment focus that the fund’s name suggests. While the proposed rule does not apply exclusively to ESG funds, it specifically references the use of ESG Terminology in a fund name and states that “the use of ESG or similar terminology in a fund’s name would deceive and mislead investors where the identified ESG factors do not play a central role in the fund’s strategy.”

      How can Waystone help?

      Waystone Compliance Solutions provides a comprehensive set of solutions to ensure firms can meet all of their ESG investing challenges at both the firm level and fund/product level.

      Waystone offers services that are tailored to the unique requirements of your business. Our highly- experienced ESG advisors have detailed knowledge of ESG standards, regulations and best practice across all major jurisdictions. We offer an unparalleled and comprehensive service that will ensure your business becomes ESG ready and remains at the forefront of developments to allow you to raise capital and continue to be successful.

      If you would like to find out more about how Waystone can help you with your ESG requirements, please reach out to your usual Waystone representative or contact us below.

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