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SFDR: Clarity from the European Commission

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The complexity of the Sustainable Finance Disclosure Regulation (SFDR) has generated many discussions, misunderstandings and misapplications across the market. In an effort to provide clarity to the Regulation, the European Supervisory Authorities (ESAs) posed a further eight questions to the European Commission (EC) on the interpretation of aspects of the SFDR in September 2022. After seven months, the EC finally released its eagerly awaited response to the ESA’s inquiries. The clarifications address many critical market concerns on sustainable investment criteria, benchmarks, the application of PAIs at entity and product levels and periodic report timing.

Below are some key take aways from the Q&A:

Definition of ‘sustainable investment’:

  • (Financial Market Participants) FMPs themselves are responsible for assessing what constitutes a sustainable investment. The EC does not specify an approach to determining ‘contribution’ and stated there are no prescriptive minimum requirements to meet the underlying ‘do not significantly harm’ (DNSH) and ‘good governance’ principles. FMPs are required to disclose their assumptions on why their product(s) constitutes a sustainable investment.
  • The ‘sustainable investment’ assessment can be applied either at the company level or at underlying economic activity level.
  • For transitioning assets, the sustainable investment assessment must be met at the time of investment, but not the future e.g. an investee company with a Transition Plan which, once achieved, could meet the DNSH criteria, is not sufficient to qualify as a sustainable investment today.

Carbon Emissions Reduction and Benchmarks:

  • Products passively tracking an EU Paris Aligned Benchmark/Climate Transition Benchmark (EU PAB/CTB) qualify as Article 9 and their investments do not need to be assessed against the sustainable investment criteria.
  • Article 9(3) products can be actively managed and are not limited to tracking only EU PAB/CTB (but if the product does not track an EU PAB/CTB, its investments remain subject to the sustainable investment assessment).
  • Article 8 funds can promote carbon emissions reduction without being caught as an Article 9(3) Product.

Entity-level Disclosures:

  • The 500-employee threshold for entity-level PAI disclosures is based on national law.
  • SFDR periodic reports should be provided annually and included in every fourth MiFID portfolio management report (where exemption does not apply).

See here for the Q&A in full.

If you would like to discuss how Novatus can support your SFDR compliance, please contact Coralie Nelson: [email protected]