FCA sets new sustainability labels for green investment funds - what do they mean?

The Financial Conduct Authority (FCA) has announced strict rules on the use of sustainability terms and new labels to identify green investments in an effort to combat “greenwashing”.

The rules apply to all FCA-authorised firms, including current and savings account providers, insurers, financial advisers, pension funds and investment firms.

Companies will have to provide evidence to back up any environmental claims about their financial products or services. 

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The first part of the rules - ensuring sustainability-related claims are fair, clear and not misleading - will come into effect from 31 May 2024.

Fund managers will also be able to use one of four labels to highlight their fund’s green credentials. The hope is that investors will find it easier to understand how green or ethical the fund is, and that it will clamp down on greenwashing. For example, some “ethical funds” have been found to invest in fossil fuels.

FCA research found that 81% of people would like their money to do some good as well as provide a return. Three-quarters (76%) want to invest in a way that protects the environment. The research also found that customers find it difficult to understand vague terms like ESG (environmental, social and governance), green and sustainable, which are often used loosely and interchangeably in product marketing.

Investment associations welcomed the new measures. Nick Britton, research director of the Association of Investment Companies (AIC), said the launch of the anti-greenwashing rule at the end of May was a "significant step", but admitted that there was "likely to be more hoo-hah over the launch of the labelling regime at the end of July".

He added: "As Kermit the Frog once sang, it’s not easy being green – but as [the rules] come into effect, it should get easier for investors to tell the real McCoy from the muppets."

Galina Dimitrova, director, investment and capital markets, at the Investment Association, said: "The publication of the sustainability disclosure requirements (SDR) and investment labels regime brings welcome clarity to investment managers [...] and we fully support the aim to bring greater transparency and comparability to sustainable investment.”

What are the sustainability disclosure requirements? 

The sustainability disclosure requirements are a package of measures that the FCA says will “improve the trust and transparency of sustainable investment products and minimise greenwashing”.

There are three parts:

- An anti-greenwashing rule for all authorised firms to make sure sustainability-related claims are fair, clear and not misleading. This will come into effect from 31 May 2024.

- Product labels to help investors understand what their money is being used for, based on clear sustainability goals and criteria. These can be used from 31 July 2024.

- Naming and marketing requirements for asset managers so products cannot be described as having a positive impact on sustainability when they don’t. These come into effect from 2 December 2024.

The anti-greenwashing rule applies to any form of communication, including adverts, statements, policies or images. So, if a bank wanted to advertise a “green” savings account, it would need to prove its sustainability characteristics were strong enough to justify it.

For investment funds, the information relating to the fund’s sustainability will appear in a document alongside the factsheet and prospectus.

What are the sustainable investment labels? 

About one in five UK investors report holding a sustainable fund, according to the financial website Boring Money.

Sacha Sadan, director of environmental, social and governance at the FCA, said the new sustainability labels were “simple and easy to understand so investors can judge whether funds meet their investment needs”.

From 31 July, fund managers will be able to use one of the following labels:

- Sustainability impact - funds that invest in assets directly making a positive impact

- Sustainability focus - funds that invest in assets meeting a robust, evidence-based standard of sustainability

- Sustainability improvers - funds that invest in assets that have the potential to meet a robust, evidence-based standard of sustainability

- Sustainability mixed goals - funds with this label invest in a mix of the above styles.

To qualify for one of these labels, at least 70% of the assets in a fund must be invested according to the sustainability objective set out by the fund’s manager, which must fall into one of the above four categories.

The remaining assets must not be in conflict with the objective, but they don't have to meet it exactly. For example, a fund might need cash for liquidity. 

Holly Mackay at Boring Money commented: "The words ‘sustainable’, ‘sustainability’ and ‘impact’ cannot be used to describe products that do not have a label. Pretty simple in principle – but this does mean that all communications will need to be checked, and firms will need to make sure that where applicable, new descriptions abide by the rules and are clear for consumers."

The FCA estimates that 45% of the 630 sustainable funds will use the new labels. The other 55% will be subject to the regulator’s naming and marketing rules as part of the SDR.

Dimitrova at the Investment Association commented: “We are pleased to see the regulator has listened and taken a broader approach on several key issues, such as the accommodation of mixed-asset funds within the labels and greater flexibility over marketing rules. 

“This more inclusive and pragmatic approach should ensure that standards in the sustainable investment market are raised and investors are better equipped to make informed choices across the full range of funds.”

According to the AIC, investment trusts considering using one of the four labels include Onsite Energy, Foresight Sustainable Forestry Company and VH Global Sustainable Energy Opportunities.

Non-UK investment companies are not included in the labelling regime – but could be in future. 

While the sustainability labels and naming and marketing rules apply to UK asset managers and UK-domiciled funds, the FCA is consulting on expanding these to portfolio managers as well, according to Boring Money.

In terms of enforcing the new fund labels, the FCA will regularly check if products line up with the requirements. If not, the firm will have to notify investors that the label has been revised or removed.